UNIVERSITY  OF   PENNSYLVANIA 


CAPITAL  CONTROL  IN 

NEW^  YORK 


A  THESIS  ^  ^'"  ? 

PRESENTED  TO  THE  FACULTY    \   ,  .\\   ■ 
OF  THE  GRADUATE  SCHOOL  IN  PARTIAL  FULFILMENT 
OF  THE  REQUIREMENTS  FOR  THE  DEGREE 
OF  DOCTOR  OF  PHILOSOPHY 


BY 

DONALD  C.  BALDWIN 


Copyright,  1920  By 
DoNAij)  C.  Baldwin 


GEORGE  BANTA  PUBLISHING  COMPANY 

MENASHA,  Wia 

1920 


TABLE  OF  CONTENTS 
PARTI 


hi  ^^1(^1 


Statutory  Provisions  for  the  Administrative 
Regulation  or  Utility  Capitalization  ii 

New  York  _____ 

I.    administrative  regulation  prior  to  July  1, 1907  ...  1 

Board  oj  Railroad  Commissioners — 1882 4 

Commission  of  Gas  and  Electricity — 1905 7 

II.      THE  public  service  commissions  LAW — 1907 11 

The  General  Railroad  Law  of  1910 15 

PART  II 
Original  Companies 

j  ;'•.        ^n'i  ;  .v^mojint  of  capitalization  permissible 18 

*   '*       '  •    - '   '     Tangible  Elements  of  Cost 19 

*/'  V*  {  .*  ** :  ..*:  :^^f>iO'ngible  Elements  of  Cost 22 

Interest  During  Construction  Period 22 

Working  Capital 23 

Promoters^  Fees 23 

Percentage  Paid  to  Interior  Construction  Companies 

Disapproved 24 

Actual  Cost  and  Not  Reproduction — New  as  the  Proper 

Basis  for  Securities 30 

New  York  Commissions  Not  Obliged  to  Consider  Ap- 
plications for  Securities  as  a  Whole 31 

IV.      RATIO  OF  STOCKS  TO  BONDS 35 

V.      METHODS   OF   CONTROL  OVER  THE  APPLICATION  OF  PRO- 
CEEDS   42 

Authorization  Conditioned  upon  Proper  Measures  for 
Amortization  and  Depreciation 42 

General  Restrictions  Imposed  by  the  Commissions  in 
the  Application  of  the  Proceeds 43 

Elasticity  in  Orders  Governing  Expenditure  of  Proceeds 
of  Securities 44 

VI.      TME  COMMISSIONS  AND  THE  INVESTOR 50 

I  The  Power  of  the  Commissions  to  Protect  the  Investor  50 
I  The  Duty  of  the  Commissions  to  Protect  the  Investor ...  56 
\_The  Addition  of  New  to  Old  Securities 59 


BICOHAHCfc^ 


VII.      THE  COMMISSIONS  AND  THE  COURTS 62 

/  Proper  AUittide  of  the  Commissions  Toward  the  Courts  63 

[     The  Attitude  ojthe  Courts  Toward  the  Commissions . . .  69 

PART  III 

Additional  Capitalization  for  Existing  Companies 

viii.     general  factors  considered 76 

ix.     selling  prices  of  securities  and  rate  of  return .  .  79 

Public  Offering  Made  a  Test  of  Market  Value  of  Bonds  79 

Possibility  of  Bonds  Being  Worth  More  than  Par 81 

High  Rate  of  Return  Due  to  Temporary  Necessity 

Should  Not  be  Made  Permanent 84 

Bonds  Used  as  a  Basis  for  Short  Term  Notes 86 

Car  Trust  Bonds  Used  in  Case  of  Weakened  Credit ....  86 

Funding  of  Bond  Interest  to  Meet  Credit  Emergency ...  88 

X.      AMORTIZATION 92 

Amortization  of  Bond  Discount 92 

Amortization  of  Property  Subject  to  Reversion 95 

Amortization  of  Excess  Capitalization 98 

Importance  of  Complete  Record  of  Property  Costs 100 

Difficulty  of  Fixing   Value  of  Retirements  Without 

Cost  Records 101 

XI.      DEPRECIATION  AND  REPLACEMENTS 104 

Depreciation 105 

Replacements 108 

A  Uniform  System  of  Accounts  Can  Permit  of  No  Ex- 
ceptions    115 

/'^^^ Dilemma  in  Which  a  Commission  May  be  Placed  in 

I  Opposing  the  Capitalization  of  Replacements 118 

Vwo-^/fe  Niagara  Case 119 

The  Binghamton  Case 121 

y^ew  York  Commissions  Cannot  Compel  Provision  for 

/Depreciation 125 

XII.      MISCELLANEOUS  CONSIDERATIONS 135 

^y'^ecurities  Cannot  be  Issued  to  Create  Surplus  or  Re- 
serve Funds 135 

, '  Issue  of  Stock  for  the  Purpose  of  a  Stock  Dividend  Not 

\L&gal 135 

y'^crip  Dividends  Illegal  Under  the  Public  Service  Com- 

(missions  Law 137 


446057 


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Security  Issues  for  the  '^Reimbursement  of  the  Treas- 
^ury"  of  a  Corporation  Illegal  Under  the  Original  Act.  .  .  .     139 

Expenditures  for  Other  than  Capital  Purposes  Should 
be  Met  from  Earnings 142 

Reimbursement  of  the  Treasury  as  Permitted  by  the 
1910  Amendment 143 

Privilege  of  Issuing  Evidences  of  Indebtedness  for 
Twelve  Months  or  Less  is  Not  to  be  Used  as  a  Subterfuge. . .     145 

Are  Railroctd  Securities  ''Property"? 149 

When  is  the  Purchase  of  Securities  of  One  Railroad  by 
Another  "Reasonably  Necessary"? 149 

General  Tests  for  the  Refunding  of  Note  Issues 150 

Issue  of  Bonds  for  Purchase  of  a  Disconnected  Prop- 
erty Held  to  be  "Not  Reasonably  Necessary" 150 

Attitude  of  Commission  Toward  Obligations  Issued 
Prior  to  July  1,  1907 152 

Purchase  of  Coal  Lands  by  a  Railroad  Corporation.  .      154 

Approval  of  Issue  of  Securities  for  Purchase  of  Prop- 
erty Not  Directly  Used  in  the  Public  Service 157 

PART  IV 

REFUNDING  AND  REORGANIZATION 
XIII.      REFUNDING 161 

Commissions  Should  Not  be  Compelled  to  Authorize 
the  Refunding  of  Obligations  Simply  upon  Proof  that  They 

Are  Lawful 161 

—  Permission  to  Execute  Refunding   Mortgage   Based 

u^on  Thorough  Investigation  by  Commission 163 

^ayment  of  Premiums  and  Unamortized  Discounts  by 
Refunding  Issues  Disapproved 164 

Refunding  Cannot  be  Used  to  Obtain  a  Higher  Rate  of 
Return  Without  Compensating  Advantages 165 

Disapproval  of  Refunding  Plan  Injurious  to  Minority 
Holders 166 

Bond  Premium  Charged  to  Capital 168 

High  Redemption  Premium — Allowed  Under  Peculiar 
Circumstances 168 

Allowance  of  Issue  of  Bonds  to  Meet  Discount  on  a  Re- 
funding Issue 169 

Refunding  Obligations  Assumed  Prior  to  the  Taking 
Efect  of  the  Public  Service  Commissions  Law  Are  Within 
the  Jurisdiction  of  the  Commissions 170 


/   Permission  Granted  to  Release,  Under  a  Refunding  Issue, 
(Property  Pledged  Under  the  Original  Issue 171 

XIV.      REORGANIZATION 173 

Reorganization  Practice  Since  1850 173 

.Reorganization  Under  the  Public  Service  Commissions 
/Law 175 

XV.      REORGANIZATION    UNDER    THE    PUBLIC    SERVICE    COMMIS- 
SIONS LAW — ^FtRST  PERIOD 178 

Fair-Value-of-Property  Basis  Accepted  by  the  Applicant 
Corporation 179 

Allowance  for  Value  of  Power  Contract  Based  Upon  Rea- 
sonable Profits  Upon  Capital  Invested 181 

No  Allowance  Permitted  for  Engineering  Expense  Upon 
Original  Construction 182 

Fair-Value-of-Property  Basis  Applied  Over  Corporation's 
Protest 182 

The  Third  Avenue  Case 183 

Earning  Power  as  a  Basis  for  Security  Issues 1 84 

Proposed  Use  of  Bond  Proceeds  for  Purposes  Not  Proper 
Objects  of  Capitalization 185 

Interest  of  the  Public  Vital  as  to  Amount  of  Securities 
Issued  by  a  Reorganized  Company 185 

Furnishing  of  Adequate  Facilities  by  a  Public  Utility  De- 
pendent Upon  Proper  Capitalization 186 

Third  Avenue  Case — Second  Plan 188 

Court  Decisions  Upon  the  Ruling  of  the  Commission  in 
the  Third  Avenue  Case 188 

XVI.      REORGANIZATION    UNDER    THE    PUBLIC    SERVICE    COMMIS- 
SIONS LAW — SECOND  PERIOD 190 

Requirements  for  Amortization  and  Upkeep  Stipulated  by 
Commission 191 

Subsequent  Disregard  of  Upkeep  Provisions  by  Third 
Avenue  Railway  Company 192 

XVII.      REORGANIZATION    UNDER    THE    PUBLIC    SERVICE    COMMIS- 
SIONS LAW — THIRD  PERIOD 197 

Danger  of  Placing  Undue  Stress  Upon  Earning  Power 200 

XVIII.      REORGANIZATION    UNDER    THE    PUBLIC    SERVICE    COMMIS- 
SIONS LAW — ^FOURTH  PERIOD 203 

Conclusions  of  the  Court  Upon  Commissions'  Powers  in 
a  Refunding  CorSe 207 


PART  V 

Consolidations,  Mergers  and  Transfers  or  Stock 

XIX.    consolidations  and  mergers 211 

The  Commissions  Have  No  Power  to  Compel  Consolida- 
tion   212 

A  Proposed  Consolidation  Must  be  the  Subject  of  a  Formal 

Application 213 

/Scope  of  the  Public  Service  Commissions  Law  as  Affecting 

/Consolidation 213 

/      Many  Harmful  Results  of  Consolidation  Eliminated  by 

I  Commission  Control 214 

\      Ascertainment  of  Value  of  Securities 214 

L    Bases  for  Permission  to  Consolidate 215 

When  Bonds  are  Capital  Stock 216 

Feasibility  of  Competition  in  Gas  or  Electric  Utilities 216 

Feasibility  of  Competition  in  Gas  and  Electric  Utilities 217 

Actual  Conditions  May  Force  Abandonment  of  General 

Principles 219 

Consolidation  of  Small  Railroads  for  Broader  Credit  Basis  220 
Physical  Valuation  of  Consolidated  Properties  as  One 

Test 221 

Allowance  for  Intangibles 222 

Consolidation  Versus  Reorganization 222 

Basis  of  Permission  to  Consolidate 223 

Distinction  Between  Small  Towns  and  Cities  in  Consoli- 
dation of  Gas  and  Electric  Utilities 223 

Permission  to  Consolidate  Conditioned  Upon  Rectifying 

of  Accounts 224 

/  Denial  of  Permission  to  Consolidate  Based  Upon  Absence 
I  of  Proof  that  Securities  to  be  Refunded  Represented  Capital 

I  Expenditures 226 

XX.    stock  transfers 228 

Principal  Questions  Involved  in  Transfers  of  Stock 229 

/  Dissolution  of  Holding  Companies  Made  Advisable  by  the 

Public  Service  Commissions  Law 229 

Reasonableness  of  Price  for  Stocks  Transferred 230 

Cost  to  Reproduce  as  a  Test  of  Value 231 

Propriety  of  Basing  Permission  to  Transfer  Stock  Upon  a 

Condition , 232 

Stock  Transfer  Based  Upon  the  Writing  Of  of  Intangible 

Values  from  the  Capital  Account 235 


/ 


yProtection  of  Minority  Stockholders 235 

Denial  of  Consent  to  Stock  Transfers  Based  Upon 
Inadequate  Protection  to  Minority  Holders 237 

Permission  to  Consolidate  Based  Upon  Advantage  to  Mi- 
nority Stockholders 238 

The  A  bsorption  of  Competing  Companies 239 

Elimination  of  Competition  Not  a  Valid  Reason  for  Con- 
solidation      239 

Effect  Upon  Public  Interests  of  Consolidation  of  Gas  and 
Electric  Utilities 240 

Stock  Transfers  Based  Upon  General  Advantage  to  the 
Public 244 

Acquisition  of  a  Minority  of  Stock  by  a  Corporation  Al- 
ready in  Control 245 


LAWS  REFERRED  TO 

Laws  of:  Pages 

1848— chapter  140 1 

1850— chapter  140 1;  7;  5 

1867— chapter  906;  sections  1  and  2 2 

1869— chapter  844;  section  1 , 2 

1874— chapter  430 2 

1875— chapter  446 6 

1876— chapter  446 3 

1878— chapter  264 3 

1880 — chapter  133;  section  1 4;  5 

1880— chapter  155 .* 4 

1880— chapter  575 4 

1882 — chapter  353;  section  5 1;  4;  5 

1884— chapter  252 5 

1890— chapter  564;  section  70 •. 6 

1890— chapter  565 6;  7;  15 

1890— chapter  565;  sections  71;  79;  80;  78 16 

1890— chapter  566 6 

1892— chapter  676;  section  78 6;  7;  16;  15 

1892-K:hapter  688 21 

1899 — chapter  426;  section  1 6 

1899— chapter  583;  section  1 7;  16 

1905— chapter  737 7 

1907— chapter  429;  section  69 8;  9;  10;  11 

1907— chapter  429;  sections  55;  69;  82;  101 11 

1907— chapter  429 15;  51 

1909— chapter  564 15 

1910-chapter  480 16;  51;  83;  138;  161;  189;  211;  212;  216 

1910— chapter  481 11;  15;  16 

1910— chapter  673 11 

1911— chapter  788;  section  1 14 

1912 — chapter  289;  section  1  (Reorganization  amend.) 16;  17;  52 

1913— chapter  505 11 

Consolidated  Laws — chapter  48 16 

Consolidated  Laws — chapter  48;  section  4 - 54;  131 

Ohio— General  Code— sections  9034;  9035;  9036 236 


IX 


COURT  DECISIONS  CITED 

United  States  Supreme  Court 

Pages 
Adams  Express  Company  v.  Ohio  State  Auditor,  165  U.  S.  194.    Decided  Feb- 
ruary 1, 1897,  and  166  U.  S.  185.   Decided  March  15, 1897 200 

Consolidated  Gas  Company — Wilcox  et  al.,  v.  The  Consolidated  Gas  Company, 

212  U.  S.  19.    Decided  January  4,  1909 35;  83 

Interstate  Commerce  Commission  v.  Illinois  Central  Railroad  Company,  215 

U.  S.  452, 470.    Decided  January  10, 1910 72 

Kansas  City  Southern  Railway  Company  v.  United  States  et  al.,  231  U.  S.  423. 

Decided  December  1, 1913 114 

Knoxville,  City  of,  v.  Knoxville  Water  Company,  212  U.  S.  1.    Decided  January 

4,  1909 56 

New  York  &  Queens  Gas  Company,  People  ex  rel.  v.  Public  Service  Commission, 

245  U.  S.  337.   Decided  December  10, 1917 243 

West  Chester  Street  Railway  Company,  People  ex  rel.,  same  et  al.,  v.  Public 

Service  Commission,  210  U.  S.  456.    Decided  March  17, 1914 202 

New  York  State  Court  of  Appeals 

Binghamton  Light,  Heat  &  Power  Company,    People  ex  rel.  v.  Stevens,  203 

N.  Y.  7.    Decided  October  3,  1911 107,  124,  131,  157,  207 

Delaware  &  Hudson  Company,  People  ex  rel.  v.  Stevens,  197  N.  Y.  1.    Decided 

December  7,  1909 31,  51,  66,  107,  123,  155-6,  207 

Jamaica  Water  Supply  Company,  People  ex  rel.  v.  Tax  Commissioners,  196 

N.  Y.  39.    Decided  October  19, 1909 105 

New  York  &  Queens  Gas  Company,  People  ex  rel.  v.  Public  Service  Commission, 

219  N.  Y.  84.    Decided  October  3, 1916 71,  243 

New  York  &  Queens  Gas  Company,  People  ex  rel.  v.  Public  Service  Commission, 

219  N.  Y.  681.   Decided  December  28, 1916 243 

New  York  Railways  Company,  People  ex  rel.  v.  Public  Service  Commission,  223 

N.  Y.  373.   Decided  May  14, 1918 56,  75, 125, 194 

Quimby  et  al.  v.  Public  Service  Commission,  223  N.  Y.  244.    Decided  April  5, 

1918 134 

Third  Avenue  Railway  Company,  People  ex  rel.,  same  et  al.  v.  Public  Service 

Commission,  203  N.  Y.  299.    Decided  November  21,  1911 52,  189 

New  York  State  Supreme  Court — Appellate  Division 
Bridge  Operating  Company,  People  ex  rel.  v.  Public  Service  Commission,  153 

App.  Div.,  N.  Y.  129.    Decided  November  15,  1912 126 

Dry  Dock,  East  Broadway  &  Battery  Railroad  Company,  People  ex  rel.  v.  Pub- 
lic Service  Commission,    167   App.    Div.   286.      Decided    May    7,    1915. 

50,  52,  204-5,  207 

Jamaica  Water  Supply  Company,  People  ex  rel.  v.  Tax  Commissioners,  128 

App.  Div.,  13.     Decided  December  17, 1908 105 


Kings  County  Lighting  Company,  People  ex  rel.  v.  Public  Service  Commission, 

178  App.  Div.,  840.    Decided  July  13, 1917 126 

Longacre  Electric  Light  &  Power  Company,  People  ex  rel.  v.  Public  Service 

Commission,  137  App.  Div.  810.    Decided  April  22,  1910 31,  34 

New  York  &  Queens  Gas  Company,  People  ex  rel.  v.  Public  Service  Commission, 

171  App.  Div.,  580.    Decided  March  3,  1916 71,  243 

New  York  Railways  Company,  People  ex  rel.  v.  Public  Service  Commission,  181 

App.  Div.,  N.  Y.  338.     Decided  January  18,  1918 

50,  54,  55,  72,  105,  129,  130,  133,  193 

Third  Avenue  Railroad  Company,  People  ex  rel.  v.  Tax  Commissioners,  136  App. 

Div.,  155.    Decided  December  30, 1909 107 

Third  Avenue  Railway  Company,  People  ex  rel.  v.  Public  Service  Commission, 

145  App.  Div.,  378.    Decided  June  9,  1911 54,  188 

West  Chester  Street  Railway  Company  and  the  New  York,  New  Haven  and 

Hartford  Railroad  Company  v.  Public  Service  Commission,  158  App.  Div., 

251.    Decided  July  8,  1913 201 

Miscellaneous  Cases 

Lee  V.  Atlantic  Coast  Line  Railroad  Company,  150  Federal  Reporter,  175 211 

States  V.  Great  Northern  Railroad  Company,  Minnesota  Supreme  Court,  153 

N.  W.  Rep.,  247 72 


XI 


PUBLIC  SERVICE  COMMISSION  CASES  CITED 

Pages 
Matter  of  Application  of: 

Adirondack  Electric  Power  Corporation  to  Issue  Stock  and  Bonds,  3  P.S. 

C.R.,  2nd  Dist.,  N.  Y.  242.    Decided  February  19,  1912 176;  195 

Astoria  Light,  Heat  &  Power  Company,  5  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  122. 

Opinion  filed  March  3,  1914 .82;  148 

Astoria  Light,  Heat  &  Power  Company  for  Authorization  of  the  Issuance  of 

Bonds  and  Stock,  5  P.  S.  C.  R.,  1st  Dist.  N.  Y.,  225.    Decision  rendered 

May  4, 1914 247 

Babylon  Electric  Light  Company,  1  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  132.    De- 
cided March  9,  1908 135;  146 

Baltimore  &  Ohio  Railroad  Company  for  Leave  to  Acquire  Certain  Shares  of 

the  Staten  Island  Railway  Company,  2  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  782. 

Decided  December  30,  1911 246 

Belt  Line  Railway  Corporation,  4  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  411.    Opinion 

adopted  November  7, 1913 32;  125;  246 

Binghamton  Light,  Heat  &  Power  Company,  2  P.  S.  C.  R.,  2nd  Dist.,  N.  Y., 

171.   Decided  August  4, 1909 121, 143, 157 

Binghamton  Light,  Heat  &  Power  Company  for  a  Rehearing,  2  P.  S.  C.  R., 

2nd  Dist.,  N.  Y.,  566.   Decided  August  25, 1910 64 

Bronx  Gas  &  Electric  Company,  2  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  150,  476. 

Opmion  adopted  November  12,  1909.    December  30,  1910..  .32,  78,  135,  168 
Bronx  Gas  &  Electric  Company,  2  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  178.    Opinion 

adopted  January  14, 1910 143 

Bronx  Gas  &  Electric  Company,  4  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  199.   Opinion 

adopted  April  29, 1913 32 

Brooklyn  Borough  Gas  Company,  Matter  of  Complaint  of  Edw.  G.  Baltz, 

etc.,  2  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  620.     Opinion  adopted  August  18, 1911       99 
Brooklyn  Borough  Gas  Company,  etc.,  4  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  328. 

Opinion  adopted  July  8, 1913 99 

Brooklyn  Borough  Gas  Company,  5  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  203. 

Opinion  adopted  March  13,  1914 98,  101 

Brooklyn  Union  Elevated  Railroad  Company,  1  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 

277.   Opinion  adopted  July  17, 1908 146 

Brooklyn  Union  Gas  Company,  1  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  273.    Opinion 

adopted  July  17, 1908 170 

Buffalo  General  Electric  Company  for  Authority  to  Acquire  the  Stock  of  the 

Cataract  Power  &  Conduit  Company,  4  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  528. 

Decided  June  24, 1915 235 

Central  Hudson  Gas  &  Electric  Company,  3  P.  S.  C.  R.,  2nd  Dist.,  N.  Y., 

380.    Decided  July  16,  1912 144 

Central  New  England  Railway  Company,  for  Authority  to  Issue  Bonds,  2 

P.S.C.R.,2ndDist.,N.Y.,205.   DecidedAugust  11, 1909 166 

xii 


Central  New  England  Railway  Company  for  Authority  to  Issue  Bonds,  2 

P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  591.    Decided  October  25, 1910 168 

Consolidated  Gas  Company  of  New  York  City  to  Purchase  the  Stock  of  the 

New  York  &  Queens  Electric  Light  &  Power  Company,  and  the  New 

York  &  Queens  Company,  4  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  231.     Opinion 

adopted  May 20, 1913 233, 237,240 

Consolidated  Gas  Company  of  New  York  City,  5  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 

339.    Opinion  filed  December  18,  1914 83 

Coney  Island  &  Brooklyn  Railroad  Company,  1  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 

113.    Opinion  adopted  February  18,  1908 87 

Coney  Island  &  Brooklyn  Railroad  Company,  1  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 

705.    Opinion  adopted  July  2, 1909 108 

Coney  Island  &  Brooklyn  Railroad  Company,  2  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 

130,  336.    Opinions  adopted  October  22, 1909;  July  29,  1910 32, 121 

Coney  Island  &  Brooklyn  Railroad  Company,  2  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 

481,  783.    Opinions  adopted  December  30,  1910;  December  30,  1911 32,  86 

Coney  Island  &  Gravesend  Railway  Company  for  Authority  to  Acquire 

Capital  Stock  of  the  Coney  Island  &  Brooklyn  Railroad  Company,  4 

P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  490.   Opinion  adopted  December  26, 1913 231 

Delavan,  T.  C,  for  an  Order  to  Declare  Null  and  Void  the  Purchase  of  the 

New  York,  New  Haven  &  Hartford  Railroad  Company  from  the  New 

York  Central  of  Stock  of  the  Rutland  Railroad  Company,  3  P.  S.  C.  R., 

2nd  Dist.  N.  Y.,  492.   Decided  December  18, 1912 238 

Delaware  &  Hudson  Railroad  Company,  1  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  242. 

Decided  July  7,  1908 77,  147,  149,  150,  153,  155,  163 

Delaware  &  Hudson  Railroad  Company  for  Authority  to  Issue  Bonds,  1 

P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  392.     Decided  December  7,  1908 171 

Dry  Dock,  East  Broadway  &  Battery  RaUroad  Company  for  Permission  to 

Issue  Refunding  Bonds,  5  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  141.    Opinions 

filed  March  3,  1914 53,  162,  177 

Dry  Dock,  East  Broadway  &  Battery  Railroad  Company  for  Permission  to 

Issue  Bonds,  5  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  213.    Decision  rendered 

April28, 1914 203 

Rehearing  on  above,  5  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  337.     Order  adopted 

December  11, 1914 203 

Dry  Dock,  East  Broadway  &  Battery  Railroad  Company  to  Issue  Bonds,  7 

P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  59.    Opinions  adopted  May  4  and  May  25, 

1916 54,  204,  208 

Empire  Gas  &  Electric  Company,  3  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  9.    Decided 

July  12,  1911 221 

East  River  Terminal  Railroad  Company,  1  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  306, 

Opinion  adopted  October  13,  1908 33 

Erie  Railroad  Company,  1  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  471.     Decided 

March  2,  1909 88 

Erie  Railroad  Company  for  Authority  to  Issue  Script  Dividends,  1  P.  S. 

C.  R.,  2nd  Dist.,  N.Y.,  115.   Decided  February  27, 1908 137 

Elmira,  Corning  &  Waverley  Railway  Company,  1  P.  S.  C.  R.,  2nd  Dist., 

N.  Y.,  328.    Decided  July  23,  1908 214. 

xiii 


Fuhrman,  L.  P.,  vs.  The  Cataract  Power  &  Conduit  Company,  3  P.  S.  C.  R., 
2nd  Dist.,  N.  Y.,  656.    Decided  April  2, 1913 235 

Greenwich  &  Johnsonville  Railway  Company,  1  P.  S.  C.  R.,  2nd  Dist., 

N.  Y.,  90.    Decided  February  18, 1908 77, 165 

Geneva  &  Auburn  Railway  Company  for  Authority  to  Issue  Stock,  2  P.  S. 
C.  R.,  2nd  Dist.,  N.  Y.,  427.    Decided  May  17, 1910 166 

Genesee  Light  &  Power  Company  for  Authority  to  Issue  Capital  Stock,  2 
P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  443.    Decided  May  17,  1910 176,  180 

Hudson  River  &  Eastern  Traction  Company,  3  P.  S.  C.  R.,  2nd  Dist.,  N.  Y., 
172.    Decided  December  27, 1911 24, 64,  81 

Hudson  River  Electric  Power  Company  for  Permission  to  Issue  Bonds,  1 
P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  51.    Decided  December  4, 1907 56,  76,  78 

Hudson  &  Manhattan  Railroad  Company,  6  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  272. 
Opinion  adopted  September  17,  1915 47 

Interborough  Rapid  Transit  Company,  1  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  149. 
Opinion  adopted  April  23, 1908 32 

Kings  County  Electric  Light  &  Power  Company,  2  P.  S.  C.  R.,  1st  Dist., 
N.  Y.,  193.    Opinion  adopted  January  24, 1910 32, 47,  81 

Kings  County  Electric  Light  &  Power  Company,  3  P.  S.  C.  R.,  1st  Dist., 
N.  Y.,  473.    Opinion  adopted  December  17, 1912 32 

Kings  County  Lighting  Company,  1  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  700.  Opin- 
ion adopted  July  2,  1909 : 32,  80, 108 

Lehigh  &  Hudson  River  Railway  Company,  1  P.  S.  C.  R.,  2nd  Dist.,  N.  Y., 
224.   Decided  May  7, 1908 140 

Lockport  Light,  Heat  &  Power  Company,  1  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  12. 
Decided  October  31, 1907 215 

Longacre  Electric  Light  &  Power  Company,  1  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 
226.   Opinion  adopted  June  26, 1908 29,  39 

Longacre  Electric  Light  &  Power  Company,  2  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 
593.   Opinion  adopted  July  28, 1911 32,  40, 48 

Long  Island  Railroad  Company,  2  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  275.  De- 
cided November  18, 1909 48,  65, 149 

Manhattan  Railway  Company,  1  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  205.  Order 
adopted  June  12, 1908 32, 169 

Manhattan  &  Queens  Traction  Corporation,  5  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 
57.    Order  entered  February  5,  1914 29,  31, 47 

Metropolitan  Street  Railway  Company,  Application  of  Receivers  to  Pur- 
chase from  the  Receivers  of  the  New  York  City  Railway  Company  the 
Stock  of  the  Bridge  Operating  Company  Owned  by  the  Latter,  1  P.  S. 
C.  R.,  1st  Dist.,  N.  Y.,  741.    Opinion  adopted  August  20, 1909 247 

Metropolitan  Street  Railway  Company,  Reorganization  of  Same,  3  P.  S. 
C.  R.,  1st  Dist.,  N.  Y.,  113.  Opinion  adopted  February  27,  1912.  .  .  . 
104,  110,  129,  176,  193 

Mid-Crosstown  Railway  Company,  Inc.,  3  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  416. 
Opinion  adopted  November  1,  1912 177,  198 

Nassau  Electric  Railroad  Company,  1  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  277. 
Opinion  adopted  July  17, 1908 146 

xiv 


Nassau  Electric  Railroad  Company,  2  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  124. 

Opinion  adopted  September  30, 1909 32 

Newburgh  Light,  Heat  &  Power  Company,  1  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  7. 

Decided  August  21, 1907 84 

Newburgh  Light,  Heat  &  Power  Company,  1  P.  S  C.  R.,  2nd  Dist.,  N.  Y.,  90. 

Decided  June  29,  1909 118,  143 

New  York  Central  &  Hudson  River  Railroad  Company  for  Leave  to  Acquire 
Certain  Stocks,  1  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  294.    Decided  July  21, 

1908 212,  230 

New  York  Central  &  Hudson  River  Railroad  Company  for  Leave  to  Pur- 
chase the  Stock  of  the  Spuyten  Duyvil  &  Port  Morris  Railroad  Com- 
pany, 1  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  466.   Decided  January  22, 1909 244 

New  York  Central  &  Hudson  River  Railroad  Company  for  Authorization  to 
Buy  Stock  of  the  New  York  &  Harlem  Railroad  Company,  3  P.  S.  C.  R., 
2nd  Dist.,  N.  Y.,  183.    Decided  December  28, 1911 244 

New  York  Central  &  Hudson  River  Railroad  Company  for  Authorization  to 
Purchase  from  the  New  York,  New  Haven  &  Hartford  Railroad  Com- 
pany Stock  of  the  New  York  &  Ontario  Railroad  Company,  3  P.  S.  C.  R., 
2nd  Dist.,  N.  Y.,  261.    Decided  AprU  2, 1912 237 

New  York  Central  &  Hudson  River  Railroad  Company  to  Merge  with  Itself 
Six  Small  Subsidiary  Roads,  3  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  822. 
Decided  April  9,  1913 221 

New  York  Central  &  Hudson  River  Railroad  Company  for  Leave  to  Execute 
Certain  Mortgages,  4  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  23.  Decided  Novem- 
ber 19, 1913 213 

New  York  Central  &  Hudson  River  Railroad  Company  and  of  the  Lake 
Shore  &  Michigan  Southern  Railway  Company  for  Leave  to  Purchase 
Capital  Stock  of  the  Lake  Shore  &  Michigan  Southern,  4  P.  S.  C.  R.,  2nd 
Dist.,  N.  Y.,  258.    Decided  December  14, 1914 236,  246 

New  York  City  Railway  Company  to  Repurchase  the  Stock  of  the  Bridge 
Operating  Company  from  the  Metropolitan  Company,  5  P.  S.  C.  R.,  1st 
Dist.,  N.  Y.,  251.    Opinion  adopted  June  2, 1914 247 

New  York  Connecting  Railway  Company,  4  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 
456.    Opinion  adopted  November  14,  1913 32,  47 

New  York  Dock  Railway  Company,  4  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  94. 
Opinion  adopted  March  28,  1913 32,  98,  143 

New  York  Edison  Company,  2  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  276.  Opinion 
adopted  March  22, 1910 32, 164 

New  York  Edison  Company,  5  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  132.  Opinions 
ffledMarch3, 1914 101 

New  York  Edison  Company  for  an  Order  Authorizing  the  Issuance  of 
$15,800,000  Additional  Capital  Stock,  5  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  230. 
Decision  rendered  May  4,  1914 247 

New  York  Municipal  Railway  Corporation,  4  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 
105.    Orders  entered  March  20,  1913 125,  165 

New  York  &  North  Shore  Traction  Company,  3  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 
63.    Opinion  adopted  February  13,  1912 19,  22-31,  38,  42 

XV 


New  York  &  Ontario  Power  Company,  1  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  453. 
Decided  January  14, 1909 20, 38, 81 

New  York  &  Queens  Gas  Company — Extension  of  Gas  Mains  to  Serve 
Residents  of  Douglaston,  etc.,  6  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  35.  Opinion 
adopted  February  11,  1915 242 

New  York  &  Queens  Gas  Company — Hearing  on  Conamission's  Motion  in  re 
Extension  of  Gas  Mains  of  Same  to  Serve  Residents  of  Douglaston,  etc., 
9  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  259.   Opinion  adopted  February  1, 1918 243 

New  York  Railways  Company,  3  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  397.  Opinion 
adopted  November  1,  1912 32^7;  109,  112 

New  York  Railways  Company,  3  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  453.  Opinion 
adopted  December  10, 1912 130 

New  York  Railways  Company  for  Authority  to  Issue  Bonds,  5  P.  S.  C.  R., 
1st  Dist.,  N.  Y.,  92.   Opinion  adopted  February  6, 1914 114 

New  York  Railways  Company,  5  P.  S.  C.  R.,  1st  Dist.,  N .  Y.,  203.  Opinion 
adopted  October  30, 1914 93 

New  York  Railways  Company  (Rehearing),  6  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 
237.   Opmion  adopted  July  27, 1915 130 

Niagara  Light,  Heat  &  Power  Company,  2  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  90. 
Decided  June  29, 1909 118, 143 

Palmyra  Gas  &  Electric  Company,  etc.,  etc.,  2  P.  S.  C.  R.,  2nd  Dist.,  N.  Y., 
500.   Decided  June  22, 1910 221, 242 

PeUiam  Park  &  City  Island  Railway  Company,  Inc.,  for  Permission  to  Issue 
Capital  Stock,  etc.,  4  P.  S.  C.  R.,  1st  Dist.,  N.  Y,  314 246 

Port  Jervis  Light  &  Power  Company  and  The  Port  Jervis  Traction  Com- 
pany for  Approval  of  the  Issue  of  Bonds  and  Stock,  2  P.  S.  C.  R.,  2nd  Dist., 
N.  Y.,315.   Decided  January  6, 1910 176, 178 

Poughkeepsie  Light,  Heat  &  Power  Company,  etc.,  for  Leave  to  Consolidate, 
2  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  644.    Decided  April  11, 1911 224 

Richmond  Light  &  Railroad  Company  and  The  Staten  Island  Midland  Rail- 
way Company,  8  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  111.  Opinion  adopted 
May  9, 1917 226 

Rochester  Corning  Elmira  Traction  Company,  1  P.  S.  C.  R.,  2nd  Dist., 
N.  Y.,  166.    Decided  March  30,  1908 22,  32,  35,  43,  57,  65,  81 

South  Brooklyn  Railway  Company  to  Purchase  Stock  in  the  Prospect  Park 
and  South  Brooklyn  Railroad  Company,  and  in  the  New  York  &  Coney 
Island  Railroad  Company,  3  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  464.  Opinion 
adopted  July  2, 1912 245 

Staten  Island  Railway  Company  for  Approval  of  Transfer  to  the  Baltimore 
&  Ohio  Railroad  Company  of  Capital  Stock  of  the  Former,  1  P.  S.  C.  R., 
1st  Dist.,  N.  Y,  788.   Opinion  adopted  August  27, 1909 246 

Staten  Island  Midland  Railway  Company,  5  P.  S.  C.  R.,  1st  Dist.,  N.  Y., 
345.    Opinion  adopted  December  22,  1914 87,  108 

Staten  Island  Midland  Railway  Company,  6  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  1. 
Opinion  adopted  January  22, 1915 109 

Syracuse,  Geneva  &  Coming  Railway  Company  and  Fall  Brook  Railway  for 
Permission  to  Consolidate,  etc.,  2  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  18.  Decided 
April  7, 1909 220 

xvi 


Third  Avenue  Bridge  Company,  2  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  779.  Opinion 
adopted  December  30, 1911 32, 96 

Third  Avenue  Bridge  Company,  3  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  209.  Opinion 
adopted  March  8, 1912 96 

Third  Avenue  Bridge  Company  for  Authorization  of  Stock  Issue  of  6  P.  S. 
C.  R.,  1st  Dist.,  N.  Y.,  189.    Opinion  filed  March  23, 1915 97,  246 

Third  Avenue  Railroad  Company,  1  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  512,  Opin- 
ion adopted  March  26,  1909 95 

Third  Avenue  Railroad  Company — Application  of  Bondholders'  Committee 
for  Approval  of  an  Issue  of  Bonds  and  Stock,  2  P.  8.  C.  R.,  1st  Dist., 
N.  Y.,  94.    Opinion  adopted  September  29, 1909 176, 183,  200 

Third  Avenue  Railroad  Company — Application  of  Bondholders'  Committee 
for  Approval  of  the  Issue  of  Bonds  and  Stock,  2  P.  S.  C.  R.,  1st  Dist., 
N.  Y,  347.   Opinionadopted  July  29, 1910 174, 176, 188 

Third  Avenue  Railroad  Company — Application  of  Bondholders'  Committee 
for  Approval  of  an  Issue  of  Stock,  3  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  21.  Opin- 
ions adopted  January  17, 1912 176, 190 

Third  Avenue  Railroad  Company — Order  Made  by  the  Commission  Relative 
to  the  Reorganization  of  the  Third  Avenue  Railroad  Company,  3  P.  S.  C. 
R.,  1st  Dist.,  N.  Y,  453.   Opinion  adopted  December  10, 1912 191 

Third  Avenue  Railway  Company — Application  of  Bondholders'  Committee, 
3  P.  S.  C.  R.,  1st  Dist.,  N.  Y,  51.   Opinion  adopted  February  3, 1912 ...  104, 190 

Third  Avenue  Railway  Company,  3  P.  S.  C.  R.,  1st  Dist.,  N.  Y.,  327.  Opin- 
ion adopted  June  28,  1912 77,97,235,239,245 

Third  Avenue  Railway  Company  to  Purchase,  etc..  Certain  Shares  of  the 
Capital  Stock  of  the  New  York  City  Interborough  Railway  Company,  3 
P.  S.  C.  R.,  1st  Dist.,  N.  Y,  447.   Opinion  adopted  November  8, 1912 245 

Third  Avenue  Railroad  Company  for  Consent  to  Purchase  Capital  Stock  and 
Bonds  to  Be  Issued  by  the  Mid-Crosstown  Railway  Company,  Inc.,  5  P.  S. 
C.R.,  1st  Dist.,  N.Y,  22.   Opinion  adopted  January  23, 1914 247 

Watertown  Light  &  Power  Company,  1  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  146. 
DecidedMarch  10, 1908. 59 

Watertown  Light  &  Power  Company,  1  P.  S.  C.  R.,  2nd  Dist.,  N.  Y.,  496. 
Decided  March  9,  1909 158,  212,  215,  217,  242 

West  Chester  Street  Railroad  Company  for  Authority  to  Issue  Stock,  3  P.  S. 
C.  R.,  2nd  Dist.,  N.  Y,  286.   Decided  April  24, 1912 177, 198 


xvu 


INTRODUCTION 

Civilization  has  been  defined  as  an  accumulation  of  luxuries.  It  is 
true  that  our  modern  life  is  largely  made  up  of  those  things  that  once 
were  viewed  as  luxuries,  but  which  have  demonstrated  their  usefulness 
in  increasing  our  efl&ciency  and  our  possibility  of  a  fuller  realization  of 
life  to  such  an  extent  that  we  will  not  do  without  them.  One  need  only 
think  of  spending  a  week  in  journeying  by  stage-coach  from  Albany  to 
Washington,  to  realize  that  our  span  of  life  has  practically  been  doubled 
or  trebled  within  the  last  century. 

Of  these  erst- while  luxuries  that  make  our  modern  existence  possible, 
the  most  fundamental  consist  of  services  rendered  by  a  class  of  institu- 
tions which  have  come  to  be  known  as  "public  utilities. "  The  peculiar- 
ity of  this  class  of  services  is  that  its  economy  of  production  rests  upon 
what  is  known  in  political  economy  as  the  "principle  of  increasing 
returns, "  or,  in  other  words,  these  services  can  be  produced  most  cheaply 
under  systems  of  wide-spread,  unified  control.  Because  of  the  physical 
conditions  involved  in  their  production  and  distribution,  gas,  electric, 
transportation,  and  telephone  services  do  not  lend  themselves  to  the 
regulative  principle  involved  in  competitive  methods,  and  governmental 
control,  either  through  regulation  or  ownership,  has  come  to  be  considered 
indispensible. 

But,  if  it  is  true,  on  the  one  hand,  that  our  modern  life  would  not  be 
possible  without  these  services,  it  is  equally  true  that  these  "utility" 
services  could  not  be  possible  without  the  equally  modern  practice  of 
investment  by  the  masses  of  the  people  in  corporate  securities.  Not 
only  is  the  corporate  form  of  organization  necessary  for  the  production 
of  these  services,  but  the  financial  requirements  are  so  great  that  popular 
support  of  their  security-issues  is  absolutely  necessary.  A  modern  public 
utility  corporation  is  just  as  dependent  for  its  existence  upon  the  investing 
public  as  upon  the  consuming  public.  A  man  may  be  practically  com- 
pelled to  patronize  a  public  service  corporation  which  enjoys  a  monopo- 
hstic  position,  but  he  cannot  be  forced  in  the  matter  of  investing  his  funds. 

The  investment  security  was  also  classed  among  the  luxuries,  as 
instanced  by  the  proverbial  reference  to  the  "bloated"  bond-holder.  In 
the  early  middle  ages,  banks  were  unknown,  and  surplus  funds  were 
hidden  away.  The  first  banks,  when  they  did  develop,  were  simply  safe 
deposit  vaults,  and  charged  the  depositors  a  fee  for  their  services.  This 
practice  was  succeeded  by  that  of  loaning  out  the  deposits  at  a  rate  of 

ziz 


interest  which  would  pay  expenses  and  yield  a  return  to  the  bankers. 
The  next  step,  investment  banking  through  corporate  securities,  came 
with  the  development  of  the  corporate  form  of  business  organization,  the 
present  extent  of  which  was  made  possible  only  through  the  collective 
investment  of  large  numbers  of  individuals. 

The  underlying  principle  of  the  whole  history  of  banking,  and  of 
investment  in  corporate  securities,  has  been  the  growth  of  confidence  of 
man  in  his  fellowman,  and  this  financial  confidence  is  today  the  most 
fragile  element  of  our  social  and  economic  structure.  A  financial  catas- 
trophe, such  as  overtook  the  New  Haven  Road,  produces  a  shattering  of 
this  financial  confidence  which  it  takes  years  to  overcome. 

The  situation,  briefly  stated,  is,  that  these  "  utility  "  services  are  neces- 
sary to  our  present-day  life;  their  production  is,  in  its  nature,  monopolis- 
tic, and  in  need  of  government  control  in  the  matter  of  prices  charged. 
On  the  other  hand,  in  common  with  all  large  corporations,  public  utilities 
are  dependent  upon  pubUc  participation  in  their  securities,  that  is,  upon 
the  confidence  of  investors. 

A  reduction  of  rates  through  governmental  agencies  may  result  in  a 
corporation's  inability  to  meet  bond-interest  and  thus  throw  it  into 
bankruptcy,  with  attendant  impairment  both  of  securities  and  services, 
or,  at  least,  may  so  shake  confidence  in  its  securities  as  to  force  it  to  pay 
exorbitant  rates  for  needed  funds.  Of  course,  where  securities  are  not 
in  excess  of  the  value  of  the  property,  investors  are  fully  protected,  but 
where  they  represent  fictitious  values,  the  problem  of  rate  regulation  is 
beset  with  difficulties.  For  a  public  utihty  corporation  which  is  subject 
to  control  in  the  matter  of  rates  but  which  can  still  pass  on  to  honest 
investors  securities  not  represented  by  value  presents  to  a  regulative 
body  the  dilemma  of  choosing  between  a  reduction  of  unjustly  high  rates 
and  a  shaking  of  financial  confidence.  In  other  words,  such  a  corpora- 
tion can,  through  unwarranted  issues  of  securities,  succeed  in  placing  the 
consuming  and  investing  public  in  direct  opposition  to  each  other.  Much 
of  the  pith  in  the  noted  remark  about  the  difficulty  of  'unscrambUng 
scrambled  eggs '  hes  in  the  fact  that  the  courts  have  always  shown  great 
reluctance  in  sanctioning  any  action  that  would  tend  to  work  a  hardship 
upon  innocent  holders  for  value.  For  the  courts  realize  the  ease  with 
which  this  confidence  can  be  destroyed  and  the  difficulty  of  restoring  it. 

Hence,  to  give  a  regulative  commission  control  over  rates  without  a 
corresponding  control  over  security  issues  is  a  half-way  solution  that 
can  achieve  but  little  real  progress.  The  Interstate  Commerce  Commis- 
sion, for  instance,  is  such  a  body.    That  it  feels  the  anomaly  of  its 


position  is  evident  in  the  remarks  which  it  made  in  connection  with  a 
recent  rate  decision  to  the  effect  that  until  there  was  a  permanent  control 
of  the  issue  of  the  securities  of  interstate  carriers,  investors  could  not  be 
protected  against  losses.^ 

In  view  of  this,  the  circumstances  attending  the  adoption  of  the 
present  system  of  administrative  control  of  public  utilities  in  New  York 
state  are  of  interest.  In  1906,  the  situation  in  New  York  City,  especially 
as  to  transit,  had  become  intolerable.  The  large  traction  systems  were 
so  loaded  down  with  excessive  bond  issues  that  they  found  it  impossible 
to  pay  fixed  charges  and  at  the  same  time  furnish  adequate  service,  and, 
even  as  it  was,  they  were  on  the  point  of  bankruptcy.  The  attempts  at 
regulation  up  to  that  time  had  proved  futile,  and  many  persons  were 
convinced  that  public  ownership  was  the  only  solution. 

^  On  April  27th,  1918,  the  Interstate  Commerce  Commission  granted  certain 
increases  in  rates  to  the  New  York,  New  Haven  and  Hartford  Railroad  Company,  and 
with  seeming  reluctance.  The  Commission  took  occasion  to  criticise  the  New  Haven 
for  its  investments  in  other  concerns  within  the  last  twelve  years.  "Money  thrown 
away  dishonestly  or  with  wanton  recklessness,  or  foolishly  lost  in  non-railroad  enter- 
prises is  not  money  put  to  public  use  on  which  the  rate  payers  are  bound  in  law  and  in 
conscience  to  make  a  return.  .  .  .  Until  this  Commission  or  some  other  active 
governmental  body  with  absolute  power  permanently  controls  the  issue  of  carrier 
securities,  and,  within  reasonable  limitation,  the  application  of  the  proceeds  thereof, 
stockholders  and  other  investors  in  carrier  securities  are  certain  from  time  to  time,  to 
be  subjected  to  such  perils  of  mismanagement  and  resultant  losses  as  have  accrued  to 
the  stockholders  of  the  New  Haven,  the  Rock  Island,  the  Pere  Marquette,  the  Cin- 
cinnati, Hamilton  and  Dayton  and  others."  In  connection  with  this  discussion, 
attention  might  be  called  to  the  effort  made  to  reach  the  masses  of  the  people  during 
the  Uberty  loan  campaigns.  The  number  of  bond-holders  in  the  United  States  previous 
to  our  entrance  into  the  war  has  been  roughly  estimated  at  three  hundred  and  fifty 
thousand;  the  subscribers  to  the  first  liberty  loan  at  four  millions,  to  the  second  loan, 
nine  millions,  to  the  third  loan,  eighteen  and  a  half  millions,  and  to  the  fourth  loan, 
twenty  millions.  This  increase  in  the  number  of  bond-holders,  and  the  possibilities 
of  the  inculcation  of  thrift  among  the  masses  of  people  of  small  incomes  which  it 
indicates  are  pointed  to  as  one  of  the  great  indirect  benefits  of  our  participation  in  the 
"World  War.  If  the  United  States  is  to  maintain  the  position  of  prominence  which  it  is 
now  assuming,  the  participation  of  the  masses  of  the  people,  as  investors,  wUl  be  equally 
necessary  now  that  peace  has  come.  And  it  is  needless  to  say  that  if  this  great  develop- 
ment of  the  investment  habit  is  to  be  continued  and  fostered,  it  must  be  done,  to  a 
large  extent,  through  other  than  government  securities,  especially  when  the  war  issues 
of  the  federal  government  begin  to  be  redeemed.  Hence,  the  importance  of  reform 
making  for  soundness  in  security  issues.  The  average  man  of  small  income  has  a  clear- 
cut  philosophy  to  the  effect  that  he  prefers  to  squander  his  savings  himself,  rather  than 
have  others  do  it  for  him,  and  the  enormous  financial  asset,  which  is  potential  in  the 
present  development  of  small  holdings,  can  be  reaUzed  only  through  scrupulous 
attention  to  the  maintenance  of  confidence. 

xxi 


In  the  gubernatorial  campaign  of  that  year,  Mr.  Hearst,  the  Demo- 
cratic nominee,  adopted  a  platform,  the  chief  plank  of  which  was  public 
ownership  of  those  utiUties  which  in  their  nature  are  monopoUes. 
Charles  E.  Hughes,  the  nominee  of  the  Repubhcan  Party,  countered  with 
the  contention  that  real  regulative  control  had  never  yet  been  given  a 
fair  trial,  and  promised,  if  elected,  to  put  through  an  adequate  program 
of  administrative  control  of  public  utilities.  The  narrow  margin  by 
which  Mr.  Hughes  was  elected  indicated  the  strength  of  the  public 
ownership  plea.  Hughes  was  therefore  committed  to  a  thorough-going 
test  of  the  adequacy  of  administrative  control  of  pubhc  utilities,  and 
immediately  upon  his  assumption  of  office,  he  directed  and  supervised 
the  preparation  of  what  later  came  to  be  known  as  the  Public 
Service  Commissions  Law,  under  the  terms  of  which  the  proposed 
commissions  were  to  be  given  sweeping  powers  over  rates,  the  providing 
of  adequate  facilities,  and  the  issuance  of  securities.  The  pubUc  utilities 
bill  recommended  by  Governor  Hughes  was  far  more  comprehensive 
than  the  Interstate  Commerce  Act. 

The  great  difference  between  the  Interstate  Commerce  Act,  and  the 
bill  backed  by  Governor  Hughes,  was  the  grant,  in  the  latter  act,  of  power 
to  regulate  the  issue  of  stock  and  bonds. 

The  bill  found  strong  popular  support  which  was  ably  led  by  the 
Governor.  The  pubhc  service  corporations  endeavored  to  amend  the 
biU  so  as  to  deprive  the  proposed  commissions  of  power  to  execute  their 
own  orders  and  require  t^em  to  go  into  court  as  litigants  before  their 
ruhngs  became  effective.  Finally,  owing  to  the  exertions  of  Governor 
Hughes,  this  amendment  was  confined  to  the  protection  of  the  consti- 
tutional rights  of  public  service  corporations,  just  as  in  the  case  of  all 
legislation  affecting  individuals.  Against  the  combined  efforts  of  the 
pohtical  managers  of  both  parties,  and  of  the  great  corporations  that 
held  pubhc  franchises  in  the  state,  the  Pubhc  Service  Commissions  Law 
was  enacted.    It  became  effective  July  1,  IPO?.*^ 

*  Chapter  429 — ^Laws  of  1907.  The  Court  of  Appeals  in  the  case  of  People  ex  rel. 
N.  Y.  Edison  Co.  v.  Willcox  (207  N.  Y.,  93.  Decided  Dec.  31,  1912.),  Mr.  Justice 
Cullen  writing  the  opinion,  said: — "That  law  [Public  Service  Commissions  Law]  was 
enacted  in  response  to  a  pronounced  and  insistent  public  opinion  and  was  a  radical  and 
important  modification  of  the  relations  and  policy  of  the  people  toward  the  corpora- 
tions which  are  its  subjects.  Its  paramovmt  purpose  was  to  protect  and  enforce  the 
rights  of  the  pubUc.  It  made  the  commissions  the  guardians  of  the  public  by  enabling 
them  to  prevent  the  issue  of  stock  and  bonds  for  other  than  statutory  purposes  or  in 
appreciable  and  unfair  excess  of  the  value  of  the  cissets  securing  them  .  .  .  . "  (Italics 
not  in  original.) 

xzii- 


As  a  demonstration  of  the  triumph  of  public  opinion  intelligently 
led,  over  what  was  perhaps  the  strongest  combination  of  opposing 
interests  that  has  ever  expressed  itself  at  any  state  capital,  the  passage 
of  this  bill  marked  an  epoch  in  pubhc  utility  control. 

The  control  of  security  issues  by  regulative  bodies  is  being  generally 
recognized  as  the  basis  of  utihty  regulation,  and  the  conferring  of  such 
powers  upon  the  Interstate  Commerce  Commission  would,  under  normal 
conditions,  have  been  the  next  step  in  the  federal  control  of  interstate 
carriers. 

As  the  vmderl)dng  idea  of  the  enactment  of  the  Public  Service  Com- 
missions law  of  New  York  was  to  give  administrative  regulation,  based 
upon  control  of  security  issues,  a  fair  test,  and,  as  the  size  and  complexity 
of  the  problems  which  those  Commissions  had  to  meet  were  imusual, 
a  study  of  the  results  accomplished  by  the  commissions  should  be  of 
value.  The  work  is  based  upon  the  "reports"^  of  the  two  Commis- 
sions,^ the  "annual  report"  (statistical)  issued  by  each  Commission,  upon 
court  decisions,  and  upon  the  briefs  and  exhibits  in  important  cases. 
Persons  famihar  with  the  work  of  the  Commissions  have  been  consulted 
wherever  possible. 

The  monograph  was  inspired  largely  by  the  deep  interest  of  Dr.  Clyde 
L.  King  in  this  kind  of  regulation,  and  the  writer's  thanks  are  due  to 
him  for  his  helpful  guidance  in  its  preparation.  Special  acknowledgment 
for  valuable  advice  and  suggestions  is  here  made  to  Hon.  Milo  R.  Maltbie, 
who  was  for  eight  years  a  member  of  the  Pubhc  Service  Commission  for 
the  First  District;^  also  to  Hon.  Frank  W.  Stevens,  ex-chairman  of  the 
Pubhc  Service  Commission  for  the  Second  District.®    Dr.  Delos  F. 

*  The  form  of  citation  of  cases  vised  by  the  First  District  Commission  consists  of 
the  initials  of  the  words,  Public  Service  Commission  Reports,  or  P.S.C.R.  To  this  is 
prefixed  the  number  of  the  volvune  and  there  is  placed  after  the  initials  the  abbrevia- 
tion, "1st  Dist.,"  for  First  District,  then,  the  abbreviation  for  the  State,  followed  by 
the  page  number.  A  similar  form  is  used  by  the  Second  District  Commission,  ex- 
cept that  P.  S.  C.  is  used  instead  of  P.  S.  C.  R.  thus:  2  P.  S.  C.  2nd  Dist.  N.  Y.  47. 

For  the  sake  of  uniformity,  citations  have  been  made  to  conform  to  those  of  the 
First  District. 

*  For  the  purposes  of  administration  of  the  Public  Service  Commissions  Law,  the 
State  of  New  York  is  divided  into  two  districts;  the  First  District,  comprising  the  City 
of  Greater  New  York,  and  the  Second  District,  which  includes  the  remainder  of  the 
state. 

*  Dr.  Maltbie  was  one  of  the  original  appointees  of  Governor  Hughes,  and  at  the 
expiration  of  his  first  term  was  reappointed  by  Mr.  Hughes.  He  served  from  July, 
1907,  until  March,  1915. 

*  Mr.  Stevens  was  also  an  original  appointee  of  Governor  Hughes  and  served  as 
chairman  of  the  Second  District  Commission  from  July  1, 1907,  to  May  2, 1913. 

xxiii 


Wilcox,  public  utility  expert,  Dr.  Louis  Roth,  former  Librarian,  First 
District  Commission,  and  Mr.  H.  C.  Hasbrouck,  Chief  Statistician, 
Second  District  Commission  have  also  rendered  assistance.  Dr. 
E.  M.  Patterson,  of  the  University  of  Pennsylvania,  was  kind  enough 
to  read  the  manuscript. 


XXIV 


PART  ONE  .'•'';•  '-v.. 

STATUTORY  PROVISIONS    FOR  THE  ADMINISTRATIVE 

REGULATION    OF    UTILITY    CAPITALIZATION 

IN  NEW  YORK 

CHAPTER  I 
Administrative  Regulation  Prior  to  July  1,  1907 

The  administrative  control  of  the  capitahzation  of  public  utility 
companies  which  existed  in  New  York  State  prior  to  July  1,  1907,  the 
date  of  the  taking  effect  of  the  PubUc  Service  Commissions  Law,  accom- 
plished Httle  of  real  value,  and  is  worthy  of  attention  principally  from 
the  point  of  view  of  historical  development. 

Until  the  year  1905  such  regulation  existed  only  with  regard  to  rail- 
roads and  street  raihoads.  The  first  semblance  of  administrative  control 
over  the  capitalization  of  railroads  appears  in  what  is  known  as  the  Rail- 
road Law  of  1848.^  This  was  the  first  general  act  under  which  railroads 
could  incorporate.  Prior  to  this  time  charters  for  proposed  roads  could 
be  obtained  only  through  special  acts  of  the  legislature.  This  law  re- 
quired every  company  to  submit  a  yearly  report  to  the  State  Engineer 
and  Surveyor,  and  it  was  stipulated  that  this  report  should  cover  the 
general  condition  and  operations  of  the  company  as  they  affected  its 
capitalization.  The  company  was  required  to  state  the  amount  of 
capital  stock  authorized,  and  the  amount  actually  paid  in;  the  amounts 
expended  for  land,  construction,  and  equipment;  the  amounts  and  kinds 
of  indebtedness;  amounts  due  to  the  company;  gross  earnings  from  all 
sources;  amounts  paid  out  for  operating  expenses  and  repairs,  and  the 
nmnber  and  amounts  of  dividends  paid. 

No  uniform  system  of  accounts  was  stipulated,  nor  was  the  State 
Engineer  and  Surveyor  given  power  to  prescribe  such.  Evidently  such 
control  was  purely  ministerial  in  character.  This  matter  of  annual 
reports  to  the  State  Engineer  and  Surveyor  constituted  practically  the 
only  element  of  administrative  control  of  railroad  capitalization  until  the 
passage  of  the  act  creating  the  Board  of  Railroad  Commissioners  in  1882.^ 

In  1850  there  was  passed  what  is  commonly  referred  to  as  The  General 
Railroad  Law,  an  act  much  more  comprehensive  than  the  act  of  1848.' 
The  annual  report  to  the  State  Engineer  and  Surveyor  called  for  under 
this  act  was  more  extensive  in  that  comparative  statistics  were  required 
of  the  current  and  the  preceding  year,  thus  showing  changes  during  the 
year. 

»  Chapter  140,  Laws  of  1848. 
« Chapter  353,  Laws  of  1882. 
»  Chapter  140,  Laws  of  1850. 


-■'•'''>;  *'";  2;  •.•  'rr  .»j/-\  -capital  control  in  new  york 


For  instance,  in  addition  to  giving  the  amount  of  capital  stock 
authorized,  and  the  amount  subscribed,  there  was  required  the  amount 
paid  in  "as  by  last  report"  and  "total  amount  now  paid  in";  "funded 
debt  by  last  report,"  and  "total  amount  now  of  funded  debt";  also 
floating  debt  as  of  preceding  and  of  current  year. 

This  comparative  method  was  a  step  in  advance  and  was  carried 
through  the  various  items  under  "  Cost  of  road  and  equipment, "  "Doings 
of  the  year  in  transportation  and  total  miles  run,"  "Expenses  of  main- 
taining the  road  or  real  estate  of  the  corporation, "  and  a  statement  of 
cash  receipts  and  payments.  Under  the  heading  of  "Expenses  of 
maintaining  the  road  or  real  estate  of  the  corporation,"  there  was  re- 
quired to  be  stated  the  cost  of  repairs  and  the  cost  of  depreciation  for  the 
various  items  of  equipment  and  way.  The  report  was  to  cover  the  year 
ending  September  30,  and  must  be  filed  by  December  1.  The  reference 
to  the  cost  of  depreciation  is  of  interest  as  showing  that  at  that  time 
provision  for  depreciation  was  recognized  as  a  necessary  element  of 
operating  expenses. 

An  amendatory  act  passed  in  1867*  provided  that  the  section  of  the 
act  of  1850  regarding  the  submitting  of  an  annual  report  by  railroad 
companies  should  not  apply  to  street  or  horse  railroads,  but  that  every 
railroad  corporation  whose  road  was  operated  by  horse-power  exclusively, 
or  by  "steam  dummy-cars  exclusively,"  or  partly  by  each,  should  make 
an  annual  report  to  the  State  Engineer  and  SiuA^eyor  of  the  year  ending 
September  30,  and  should  file  such  by  December  1  of  each  year.  The 
items  required  were  given  in  full  in  the  act  and  presented  a  scheme  of 
report  similar  to  that  required  by  the  law  of  1850. 

In  1869  leased  companies  were  relieved  from  making  the  annual  report 
required  of  railroad  corporations  and  the  lessor  companies  were  required 
to  make  such  a  report  in  addition  to  the  report  upon  their  own  road.^ 

In  1874  an  act  was  passed  "to  facilitate  the  reorganization  of  rail- 
roads sold  under  mortgage,  and  providing  for  the  formation  of  new 
companies  in  such  cases.  "^  Section  1  provided  that  the  purchasers  at 
foreclosure  of  the  property  and  franchises  of  a  railroad  corporation  sold 
under  foreclosure,  could  by  the  fifing  of  a  properly  drawn  certificate  in 
the  office  of  the  Secretary  of  State,  "become  a  body  politic  and  corporate 
with  all  the  franchises,  rights,  powers,  privileges  and  immunities  which 

*  Chapter  906,  sections  1  and  2,  Laws  of  1867. 
»  Chapter  844,  section  1,  Laws  of  1869. 
«  Chapter  430,  Laws  of  1874. 


CAPITAL  CONTROL  IN  NEW  YORK  3 

were  possessed  before  such  sale  by  the  corporation  whose  property  shall 
have  been  sold," 

This  certificate  must  contain  the  name  of  the  new  corporation  intended 
to  be  formed,  the  maximum  amoimt  of  its  capital  stock,  and  the  nimaber 
of  directors  of  the  new  company.  Consequent  upon  the  due  execution 
of  this  certificate  and  the  filing  of  it  in  the  office  of  the  Secretary  of 
State,  the  purchasers  became  a  corporation  with  all  the  powers  and 
privileges  and  subject  to  the  Scime  Uabihties  and  restrictions  as  a  com- 
pany formed  under  the  act  of  1850. 

The  requirement  that  the  certificate  of  reorganization  should  be  filed 
in  the  office  of  the  Secretary  of  State  was  administrative  in  theory,  but 
purely  ministerial  so  far  as  the  exercise  of  any  discretionary  power  was 
concerned. 

By  an  amendatory  act  passed  in  1876,  the  reorganization  act  of  1874 
was  amended  so  as  to  except  street  railroad  companies.  A  further  change 
provided  for  the  inclusion  in  the  certificate  to  be  filed  in  the  office  of  the 
Secretary  of  State  of  the  plan  or  agreement  of  reorganization  entered 
into.^ 

A  law  of  1878,  entitled  "An  Act  to  authorize  corporations  organized 
under  the  laws  of  this  state  to  reduce  their  capital  stock, "  provided  that 
any  corporation  might  diminish  its  capital  stock  to  any  amount  which 
might  be  deemed  sufficient  for  the  purposes  of  the  corporation  with  the 
approval  of  two- thirds  in  amount  of  the  stockholders.*  There  must  be 
furnished  a  certificate  of  the  proceedings,  showing  the  amount  of  capi- 
tal actually  paid  in,  the  whole  amount  of  debts  and  liabihties  of  the 
company,  and  the  amount  to  which  the  capital  stock  should  be  di- 
minished. The  act  further  provided  that  a  copy  of  such  certificate 
should  be  filed  in  the  office  of  the  Secretary  of  State  with  the  approval 
of  the  State  Comptroller  endorsed  thereon,  ^  to  the  eflFect  that  the  reduced 
capital  was  sufficient  for  the  proper  purposes  of  the  company,  and  was 
in  excess  of  all  debts  and  liabilities  of  the  company  exclusive  of  debts 
secured  by  trust  mortgages,  and  that  the  actual  market  value  of  the 
stock  of  the  company,  prior  to  the  reduction  of  the  capital,  was  less 
than  its  par  value. 

This  requirement  of  approval  by  the  State  Comptroller  seems  to  be 
the  first  instance  of  administrative  control  with  discretionary  powers, 

» Chapter  446,  section  1,  Laws  of  1876. 
»  Chapter  264,  section  1,  Laws  of  1878. 
*  Italics  not  in  original. 


4  CAPITAL  CONTROL  IN  NEW  YORK 

but  an^  intelligent  and  eflfective  use  of  such  power  would  be  dependent 
upon  the  data  available  and  the  means  for  obtaining  it,  and  there  is  no 
record  of  provision  for  such. 

An  act  passed  in  1880  amended  in  various  particulars  tl^  Railroad 
Law  of  1850  and  provided,  among  other  things,  that  increases  of  capital 
stock  were  to  be  made  "with  the  written  approval  of  th^  State  Engineer 
and  Surveyor,  until  such  time  as  there  shall  be  appointed  a  board  of 
railroad  commissioners,  and  after  that  with  the  written  approval  of  such 
board,  "^^    The  issuance  of  bonds  was  not  included  under  this  restriction. 

Another  statute  enacted  in  1880,  entitled  "An  act  to  facilitate  the 
carrying  out  of  plans  abd  agreements  for  the  reorganization  of  railroads, " 
provided  that  whenever  the  maximum  amount  of  capital  stock  mentioned 
in  the  original  certificate  of  incorporation  of  any  railroad  corporation 
is  insufficient  to  carry  a  subsequent  plan  of  reorganization,  a  majority 
of  the  directors  of  the  said  company  may  file  an  additional  certificate 
with  the  Secretary  of  State.^^  This  certificate  should  state  the  additional 
stock  required,  and  upon  the  filing  of  same,  with  the  approval  of  the 
State  Engineer  and  Surveyor,  the  company  "  shall  be  authorized  to  issue 
such  capital  stock  as  fully  as  if  the  same  had  been  mentioned  or  set  forth 
in  the  original  certificate  of  incorporation. "  It  was  further  stipulated 
that  such  additional  certificate  should  be  filed  in  the  office  of  the  Secretary 
of  State  within  two  months  after  the  passage  of  the  act.  This  would 
seem  to  indicate  that  the  measure  in  question  was  special  legislation, 
intended  for  some  immediate  purpose. 

An  amendatory  act  of  1880  changed  the  act  of  1850  as  regards  the 
annual  report  and  required  a  much  more  elaborate  form,  comprising 
about  twenty  tables.^  The  report,  as  before,  was  to  cover  the  year 
ending  September  30,  and  was  to  be  filed  by  December  20  with  the  State 
Engineer  and  Surveyor,  who,  it  was  further  enacted,  was  to  arrange  the 
data  in  such  report  in  tabular  form  to  be  printed  for  the  use  of  the 
Legislature. 

Board  of  Railroad  Commissioners — 18SZ 
In  1882  there  was  created  a  board  of  railroad  commissioners  to  con- 
sist of  three  members  appointed  by  the  governor  by  and  with  the  consent 
of  the  Senate.^^    The  powers  and  duties  conferred  upon  the  board  by 

'0  Chapter  133,  section  1,  Laws  of  1880. 
"  Chapter  155,  Laws  of  1880. 
"  Chapter  575,  Laws  of  1880. 
"  Chapter  353,  Laws  of  1882. 


CAPITAL  CONTROL  IN  NEW  YORK  5 

this  act  related  to  a  general  supervision  of  all  railroads  of  the  state  over 
their  condition  and  manner  of  operation  as  affecting  the  security  and 
accommodation  of  the  public,  the  investigation  of  accidents,  and  similar 
matters.  The  board  did  not  have  control  of  security  issues  in  any  real 
sense.  Power  to  increase  capital  stock  had  been  conferred  upon  railroads 
by  the  act  of  1850.^^  As  mentioned  above,  by  an  act  of  1880,^^  this 
increase  was  made  subject  to  the  approval  of  the  board  of  railroad  com- 
missioners when  app>ointed. 

The  board  had  general  power  to  see  that  no  railroad  corporation 
violated  "any  constitutional  provision  or  law,  or  neglects  in  any  respect 
or  particular  to  comply  with  the  terms  of  the  act  by  which  it  was  created, 
or  unjustly  discriminates  in  its  charges  for  services,  or  usurps  any  author- 
ity not  by  its  act  of  incorporation  granted,  or  refuses  to  comply  with  the 
provisions  of  any  of  the  laws  of  the  state,  or  with  any  recommendation 
of  said  board  of  commissioners.^® 

In  case  of  any  violation  the  Board  was  to  give  notice  in  writing  to 
the  corporation  so  offending,  and  if  the  violation  or  neglect  were  con- 
tinued after  such  notice,  it  was  provided  that  "the  board  may  forthwith 
present  the  fact  to  the  Attorney  General,  who  shall  take  such  proceedings 
thereon,  as  may  be  necessary  for  the  protection  of  public  interests." 

From  the  above  it  will  be  seen  that  the  Board  was  intended  to  have 
very  limited  powers,  for,  with  such  roundabout  sanction  to  their  ruUngs, 
it  would  be  diihcult  to  accomphsh  any  far-reaching  results.  Section 
Ten  of  this  act  provided  that  the  board  should  have  power  to  prescribe 
the  form  of  report  required  to  be  made  by  railroad  corporations  under  the 
act  of  1850;  to  make  changes  and  additions  in  such  form  from  time  to 
time,  with  six  months  notice  to  the  corporation,  and,  finally,  that  the 
report  required  by  the  act  of  1850  to  be  made  to  the  State  Engineer  and 
Surveyor  should  hereafter  be  made  to  the  Board  of  Railroad  Commis- 
sioners. 

In  May,  1884,  a  separate  General  Street  Railroad  Law  was  enacted.^^ 
Heretofore,  the  provisions  of  the  General  Railroad  Law  had  applied  to 
street  as  well  as  to  steam  railroads.  This  act,  however,  was  "  to  provide 
for  the  construction,  extension,  maintenance  and  operation  of  street  sur- 
face railroads  and  branches  thereof  in  cities,  towns  and  villages. "  This 
was  practically  the  General  RaihoadLaw  of  1850  applied  to  street  surface 

"  Chapter  140,  section  9,  Laws  of  1850. 
"  Chapter  133,  section  1,  Laws  of  1880. 
"  Chapter  353,  section  5,  Laws  of  1882. 
"  Chapter  252,  Laws  of  1884. 


6  CAPITAL  CONTROL  IN  NEW  YORK 

roads,  and  was  much  more  comprehensive  than  the  law  of  1875^^  applying 
to  horse  and  "steam  dummy"  railroads. 

A  repeaHng  act  of  1890^^  repealed  Chapter  264,  Section  1,  of  the  Laws 
of  1878,  previously  discussed,  which  provided  for  the  reduction  by  a  rail- 
road company  of  its  capital  stock  with  the  approval  of  the  State  Comp- 
troller. The  same  section  also  repealed  Section  1,  Chapter  155,  of  the 
Laws  of  1880,  which  required  the  approval  of  the  Raihoad  Commission 
upon  any  increase  in  capital  stock  of  a  railroad  corporation.^" 

In  1890  there  was  enacted  a  General  Railroad  Law  which  incorporated 
with  various  modifications  the  provisions  of  the  General  Raihoad  Law 
of  1850  and  the  provisions  of  the  General  Street  Railroad  Law  of  1884.^^ 
Section  57  provided  that  "every  railroad  corporation  in  this  state,  or  its 
lessees  .  .  .  shall  make  an  annual  report  to  the  board  of  railroad  com- 
missioners, according  to  the  form  prescribed  by  such  commissioners." 
This  report  was  to  cover  the  year  ending  September  30th,  and  must  be 
filed  in  the  office  of  the  board  by  December  20th,  "except  street  surface 
railroads  and  elevated  railways,  whose  report  shall  be  filed  on  or  before 
December  first. "  It  was  further  provided  that  "  every  such  corporation 
shall  make  quarterly  and  further  reports  to  such  board  in  the  form  and 
within  the  time  prescribed  by  it. " 

In  1892  an  amendatory  act  to  the  law  of  1890  was  passed  which  was 
substantially  a  reenactment  of  that  law,  with  some  changes  and  addi- 
tions.^^ While  the  Railroad  Law  of  1890  is  commonly  referred  to,  it  is 
the  amended  act  of  1892  that  is  generally  meant.  Section  57  of  the  act 
of  1892  required  that  every  person  or  corporation  owning,  leasing,  opera- 
ting, or  in  possession  of  a  railroad  wholly  or  partly  in  the  state  should 
make  an  annual  report  to  the  Railroad  Commission  of  its  operations  for 
the  year  ending  June  30th,  and  should  file  the  same  by  September  1st 
of  each  year.  This  act  repeated  the  requirement  of  the  previous  act  that 
every  such  corporation  should  make  quarterly  and  further  reports  in  the 
form  and  within  the  time  prescribed  by  the  Commission. 

The  law  of  1890  had  prohibited  the  merger  of  parallel  lines.^^    The 

i»  Chapter  446,  Laws  of  1875. 

19  Chapter  564,  section  70,  Laws  of  1890. 

^^  This  provision  was  reenacted  in  1899,  chapter  426,  section  1,  Laws  of  1899. 

21  Chapter  565,  Laws  of  1890. 

«  Chapter  676,  Laws  of  1892. 

2»  Chapter  565,  section  80,  Laws  of  1890  had  provided  that  "no  railroad  corpora- 
tions owning  or  operating  railroads,  whose  roads  run  on  parallel  or  competing  lines, 
shall  merge  or  consol:date,  or  enter  into  any  contract  fox  the  use  of  their  respective 
roads,  or  lease  the  same  the  one  to  the  other." 


CAPITAL  CONTROL  IN  NEW  YORK  7 

act  of  1892  gave  the  Board  of  Railroad  Commissioners  power  to  regulate 
the  merger  or  consolidation  of  railroad  corporations,  other  than  street 
surface  railroads,  in  the  following  language : 

no  railroad  corporation  or  corporation  owning  or  operating  railroads  whose  roads  run 
on  parallel  or  competing  lines,  except  street  surface  railroad  corporations,  shall  merge 
or  consolidate,  or  enter  into  any  contract  for  the  use  of  their  respective  roads,  or  lease 
the  same  the  one  to  the  other,  unless  the  board  of  railroad  commissioners  of  the  state 
or  a  majority  of  such  board  shall  consent  thereto.^ 

In  the  Railroad  Law  of  1850,  railroad  corporations  had  been  em- 
powered to  borrow  money  and  issue  bonds,  and  to  mortgage  their  corpo- 
rate property  and  franchises.^^  This  provision  had  been  omitted  from 
the  Railroad  Law  of  1890,^^  but  had  been  restored  in  the  amended  Rail- 
road Law  of  1892.2^  By  an  act  of  1899^^  this  provision  was  amended  so 
as  to  provide  that  no  mortgages,  except  purchase-money  mortgages, 
should  be  issued  without  the  consent  of  the  board  of  railroad  commission- 
ers and  the  consent  of  stockholders  owning  at  least  two-thirds  of  the 
stock  of  the  corporation. 

Commission  of  Gas  and  Electricity — 1905 
In  1905  an  act  was  passed  entitled,  "An  act  to  establish  a  commis- 
sion of  gas  and  electricity  with  power  to  regulate  the  price  of  gas  and 
electric  Ught  and  certain  other  electric  services,  and  to  provide  for  the 
control  and  supervision  of  gas,  electric  Hght  and  other  electric  corpora- 
tions .  .  .  "2^  This  law  provided  for  the  appointment  of  three  com- 
missioners by  the  governor,  by  and  with  the  consent  of  the  senate.  They 
were  to  receive  salaries  of  eight  thousand  dollars  a  year. 

In  the  matter  of  security  control  the  commission  was  given  powers 
over  the  approval  of  issues  of  stocks  and  bonds,  of  stock  transfers,  and 
of  consoKdation  and  mergers.  Administrative  control  of  the  securities 
of  gas  and  electrical  corporations  did  not  exist  prior  to  1905,  up  to  which 
time  such  companies  had  incorporated  under  the  Transportation  Com- 
panies Act,^°  sections  62,  63  and  64,  which  contained  no  provision  for 
administrative  control  of  capitalization,  except  a  requirement  for  the 
formal  filing  of  the  certificate  of  incorporation  with  the  Secretary  of 

«*  Chapter  676,  section  80,  Laws  of  1892. 

»*  Chapter  140,  Laws  of  1850. 

»  Chapter  565,  Laws  of  1890. 

"  Chapter  676,  Laws  of  1892. 

"  Chapter  583,  section  1,  Laws  of  1899. 

»  Chapter  737,  Laws  of  1905. 

"Laws  of  1890,  Chapter  566. 


8  CAPITAL  CONTROL  IN  NEW  YORK 

State.  Section  128  of  the  Gas  and  Electric  Commission  Act  of  1905, 
on  the  other  hand,  provided  that  stock  or  bonds  were  not  to  be  issued 
by  any  gas  or  electrical  corporation  ^^hereinafter  incorporated"  until 
a  certificate  of  authority  should  have  been  issued  "and  until  such  com- 
mission shall  further  certify  in  writing  as  to  the  amount  of  stock  or  bonds 
'^reasonably  required"  for  the  purposes  of  the  corporation,"  and  it  was 
further  provided  that  the  corporation  should  not  issue  securities  in  ex- 
cess of  the  amount  certified.  So  much  for  security-issues  of  original 
companies;  as  to  additional  capitahzation  for  existing  companies,  it  was 
similarly  provided  that  any  such  corporation  '' heretofore  or  hereafter 
incorporated"'^  should  not  increase  its  capital  stock  or  its  bonded  in- 
debtedness without  the  consent  in  writing  of  the  commission,  which 
consent  should  state  the  amount  of  the  increase.'^  This  law  required 
that  the  Commission  of  Gas  and  Electricity  should  make  its  determina- 
tion as  to  the  issue  of  securities  within  thirty  days  after  the  final  hearing. 
The  Public  Service  Commissions  Act  contains  no  such  requirement. 

This  act  of  1905  seems  to  draw  a  distinction  between  cases  of  petitions 
for  approval  of  capitalization  for  original  companies  and  petitions  for 
additional  capitalization  for  existing  companies,  whereas  the  Public 
Service  Commissions  Act  makes  no  such  distinction,  and  provides^'  for 

"  Italics  not  in  original. 

'^  In  contrast  with  these  provisions  of  the  Gas  and  Electric  Commission  Act  of 
1905,  the  Public  Service  Commissions  Act  provides  for  an  exception  in  the  matter  of 
short-term  notes,  as  follows  (section  69,  Chapter  429,  Laws  of  1907):  "Such  Gas 
corporation  or  electrical  corporation  may  issue  notes,  for  proper  corporate  purposes 
and  not  in  violation  of  any  provision  of  this  or  of  any  other  act,  payable  at  periods 
of  not  more  than  twelve  months  without  such  consent;  but  no  such  notes  shall,  in  whole 
or  in  part,  directly  or  indirectly  be  reftmded  by  any  issue  of  stock  or  bonds  or  by  any 
evidence  of  indebtedness  running  for  more  than  twelve  months  without  the  consent 
of  the  proper  commission. " 

^  As  the  Public  Service  Commissions  Law  was  originally  drafted  in  1907,  the  Com- 
missions were  required,  in  granting  approval  of  proposed  security-issues,  to  state  in 
their  Order  that  the  use  of  the  capital  involved  was  necessary  for  one  of  four  stipulated 
purposes.  Section  69  provided  as  follows: "A  gas  corporation  or  electrical  corporation 
organized  or  existing,  or  hereafter  incorporated,  under  or  by  virtue  of  the  laws  of  the 
state  of  New  York,  may  issue  stocks,  bonds,  notes  or  other  evidence  of  indebtedness 
payable  at  periods  of  more  than  twelve  months  after  the  date  thereof  when  necessary 
for  the  acquisition  of  property,  the  construction,  extension  or  improvement  of  its  plant 
or  distributing  system,  or  for  the  improvement  or  maintenance  of  its  service,  or  for  the 
discharge  or  lawful  refunding  of  its  obligations,  provided  and  not  otherwise,  that  there 
shall  have  been  secured  from  the  proper  commission  an  order  authorizing  such  issue, 
and  the  amount  thereof,  and  stating  that,  in  the  opinion  of  the  commission,  the  use  of 


CAPITAL  CONTROL  IN  NEW  YORK  9 

approval  of  securities  for  "a  gas  corporation  or  electrical  corporation  or- 
ganized or  existing,  or  hereafter  incorporated. " 

The  1905  act  provided  that  for  the  purpose  of  determining  upon  the 
amount  of  securities  to  be  issued,  the  commission  might  take  testimony, 
examine  the  books  and  papers  of  the  corporation  and  require  verified 
statements  from  the  officers  of  the  corporation  "pertaining  to  the  value 
of  the  property  and  franchises  ovmed  and  operated  by  such  corporation. " 
While  this  language  does  not  necessarily  sanction  the  capitalization  of 
franchises,  the  PubUc  Service  Commissions  Law,  on  the  other  hand, 
expressly  forbade  the  capitahzation  of  franchises. 

As  to  approval  of  stock  transfers,  section  13  of  the  act  of  1905  pro- 
vided as  follows:  "no  such  corporation  (gas  or  electrical)  shall  directly 
or  indirectly  acquire  the  stock  or  bonds  of  any  other  corporation  in- 
corporated for,  or  engaged  in,  the  same  or  a  similar  business,  or  proposing 
to  operate  or  operating  under  a  franchise  from  the  same  or  any  other 
mimicipaUty,  unless  authorized  to  do  so  by  the  Commission."^  This 
act  did  not  give  the  Commission  of  Gas  and  Electricity  any  specific 
powers  in  restricting  the  amounts  of  securities  to  be  issued  in  the  cases 
of  consoHdations  and  mergers,  while  the  Public  Service  Commissions 
Law  (1907)  did  limit  the  amount  of  capital  stock  to  be  issued  in  such 


the  capital  to  be  secured  by  the  issue  of  such  stock,  bonds,  notes  or  other  evidence  o£ 

indebtedness  is  reasonably  required  for  the  said  purposes  of  the  corporation." 

This  provision  was  amended  in  1910,  as  discussed  in  connection  with  the  PubUc 
Service  Commissions  Law  in  following  pages. 

^  The  corresponding  provision  of  the  Public  Service  Commissions  Law,  as  enacted 
in  1907,  was  substantially  the  same  except  for  the  added  restriction  that  no  corporation 
other  than  a  gas  or  electrical  corporation  could  hold  more  than  ten  per  cent  of  the 
capital  of  such  a  corporation.  This  provision  is  as  follows  (section  70):  "No  such 
corporation  shall  directly  or  indirectly  acquire  the  stock  or  bonds  of  any  other  corpora- 
tion incorporated  for,  or  engaged  in,  the  same  or  a  similar  business,  or  proposing  to 
operate  or  operating  under  a  franchise  from  the  same  or  any  other  mvmicipaUty,  unless 
authorized  so  to  do  by  the  commission.  Save  where  stock  shall  be  transferred  or  held 
for  the  purpose  of  collateral  seciirity  only  with  the  consent  of  the  commission  empow- 
ered by  this  act  to  give  such  consent,  no  stock  corporation  of  any  description,  domestic 
or  foreign,  other  than  a  gas  or  electrical  corporation,  shall  purchase  or  acquire,  take 
or  hold,  more  than  ten  per  centum  of  the  total  capital  stock  issued  by  any  gas  corpora- 
tion or  electrical  corporation,  organized  or  existing  under  or  by  virtue  of  the  laws  of 
this  state.  ..."  This  provision  was  later  amended,  as  discussed  in  connection  with 
the  PubUc  Service  Commissions  Law,  page  14. 


10  CAPITAL  CONTROL  IN  NEW  YORK 

cases  to  the  sum  of  the  capital  stock  (par  value)  of  the  corporations 
consolidated,  plus  any  additional  cash  contributed.^^ 

^  See  Public  Service  Commissions  Law,  section  69  (Chapter  429,  Laws  of  1907), 
which  provides  as  follows: '  'Nor  shall  the  capital  stock  of  a  corporation  formed  by  the 
merger  or  consolidation  of  two  or  more  corporations  exceed  the  sum  of  the  capital 
stock  of  the  corporations,  so  consolidated,  at  the  par  value  thereof,  or  such  sum  and 
any  additional  sum  actually  paid  in  cash;  nor  shall  any  contract  for  consoUdation  or 
lease  be  capitalized  in  the  stock  of  any  corporation  whatever;  nor  shall  any  corporation 
hereafter  issue  {"issued"  in  original)  any  bonds  against  or  as  a  hen  upon  any  contract 
for  consolidation  or  merger." 

In  an  important  consolidation  case  coming  before  the  Public  Service  Commission 
for  the  Second  District,  the  Commission  held  that  bonded  indebtedness  was  included 
within  the  meaning  of  "capital  stock"  in  the  provision  just  quoted.    See  page  M. 


CHAPTER  II 
The  Public  Service  Commissions  Law,  1907 

The  Public  Service  Commissions  Law^  went  into  effect  July  1, 1907. 
The  Public  Service  Commissions  created  by  it  took  the  places  both  of 
the  Board  of  Railroad  Commissioners  and  the  Commission  of  Gas  and 
Electricity,  and  enjoyed  vastly  increased  powers  over  those  exercised  by 
the  administrative  bodies  to  which  they  succeeded.^  The  act  as  origi- 
nally drafted  gave  the  Commissions  jurisdiction  over  two  groups  of  public 
utility  corporations:  railroads,  street  railroads  and  common  carriers, 
and  gas  and  electric  corporations.  In  1910,  jurisdiction  over  telegraphs 
and  telephones  was  added,^  and  in  1913,  steam  corporations  were  in- 
cluded.* 

The  sections  of  the  law  dealing  with  control  over  securities  were  sub- 
stantially amended  in  1910.^  As  originally  passed,  the  act  provided  that 
a  corporation  under  the  jurisdiction  of  the  commissions  could  issue  stocks, 
bonds,  notes  or  other  evidences  of  indebtedness  running  for  more  than 
twelve  months,  when  necessary  for  four  purposes,  as  follows: 

"  the  acquisition  of  property, 

"  the  construction,  extension  or  improvement  of  its  plant  or  distributing  system, 
or 

"  for  the  improvement  or  maintenance  of  its  service,  or* 

"  for  the  discharge  or  lawful  refunding  of  its  obUgations,  ..." 

It  was  found,  subsequently,  that  these  stipulated  purposes  would 
not  allow  a  corporation  to  reimburse  its  treasury  for  expenditures  made 
from  income,  although  these  expenditures  might  have  been  made  for  one 
of  the  purposes  enumerated  in  the  statute.  To  remedy  this  defect  the 
law  was  amended^  in  1910,  by  adding  a  fifth  purpose  for  which  securities 
could  be  issued,  as  follows: 

>  Chapter  429,  Laws  of  1907. 

*  These  two  commissions  were  abolished,  and  all  powers  and  duties  conferred  and 
imposed  by  any  existing  statutes  were  to  be  exercised  and  performed  by  the  pubUc 
service  commissions.  The  same  applied  to  the  oflSces  of  inspector  and  deputy  in- 
spectors of  gas  meters,  and  to  the  board  of  rapid  transit  railroad  commissioners.  The 
last  two  named  bodies  had  no  powers  in  matters  of  capitalization. 

3  Chapter  673,  Laws  of  1910. 

*  Chapter  505,  Laws  of  1913. 

»  Chapter  481,  Laws  of  1910. 

*  Public  Service  Commissions  Law,  sections  55,  69,  82  and  101. 
» Chapter  481,  Laws  of  1910. 


12  CAPITAL  CONTROL  IN  NEW  YORK 

"or  for  the  reimbursement  of  moneys  actually  expended  from  income  or  from  any  other 
moneys  in  the  treasury  of  the  corporation  not  secured  by  or  obtained  from  the  issue 
of  stocks,  bonds,  notes  or  other  evidence  of  indebtedness  of  such  corporation,  within 
five  years  next  prior  to  the  filing  of  an  application  with  the  proper  commission  for  the 
required  authorization,  for  any  of  the  aforesaid  purp)oses  except  maintenance  of  ser- 
vice and  except  replacements  in  cases  where  the  applicant  shall  have  kept  its  accounts 
and  vouchers  of  such  expenditure  in  such  manner  as  to  enable  the  commission  to  ascer- 
tain the  amoimt  of  moneys  so  expended  and  the  purposes  for  which  such  expenditure 
was  made." 

The  act  of  1907  stipulated  that  securities  were  to  be  issued  for  the 
purposes  named  "provided  and  not  otherwise  that  there  shall  have  been 
obtained  from  the  proper  commission  an  order  authorizing  such  issue,  and 
the  amount  thereof  and  stating  (the  purposes  to  which  the  issue  or  pro- 
ceeds thereof  are  to  be  applied,  and)  that,  in  the  opinion  of  the  commis- 
sion [the  use  of  the  capital  to  be  secured]  by  the  issue  of  such  stock,  bonds, 
notes  or  other  evidence  of  indebtedness  is  (or  has  been)  reasonably  re- 
quired for  the  [said  purposes  of  the  corporation. "]  The  two  enclosures 
in  parentheses  were  added  in  1910^  while  at  the  same  time,  the  two  en- 
closures in  brackets  were  changed  as  follows:  the  phrase,  "  the  use  of  the 
capital  to  be  secured "  was  changed  to  "the  money,  property  or  labor 
to  be  procured  or  paid  for,"  while  the  phrase  "for  the  said  pur- 
poses of  the  corporation  "  was  altered  to  read  "for  the  purposes  specified 
in  the  order. "  At  this  point  there  was  also  added  in  1910  the  following 
clause:  "and  that  except  as  otherwise  permitted  in  the  order  in  the  case 
of  bonds,  notes  and  other  evidence  of  indebtedness,  such  purposes  are  not, 
in  whole  or  in  part,  reasonably  chargeable  to  operating  expenses  or  to 
income;  ..."  The  object  here  sought  was,  apparently,  to  prevent 
the  commissions'  permitting  a  corporation  to  issue  stock  for  purposes 
properly  chargeable  to  operating  expenses  or  income  in  those  cases  of 
emergency  where  it  might  see  fit  to  exercise  the  discretionary  powers 
granted  to  it  in  permitting  the  funding  of  such  expenditures.  Funding 
in  such  cases  should,  of  course,  be  made  as  temporary  as  possible,  and 
it  would  be  much  easier  to  insure  rapid  amortization  in  the  case  of  bonds 
or  notes  than  in  the  case  of  stock.  It  was  provided,  however,  that  this 
should  not  apply  to  securities  issued  prior  to  the  taking  effect  of  the  Pub- 
lic Service  Commissions  Law. 

In  1910  there  was  also  added  a  clause  which  apparently  gave  to  the 
commissions  discretion  in  the  matter  of  allowing  a  corporation  to  reim- 
burse its  treasury  in  cases  where  the  records  were  missing.  This  clause 
read  as  follows: 

*See  ref.,  preceding  footnote. 


CAPITAL  CONTROL  IN  NEW  YORK  13 

Nothing  herein  contained  shall  prohibit  the  commission  from  giving  its  consent  to  the 
issue  of  bonds,  notes,  or  other  evidences  of  indebtedness  for  the  reimbursement  of 
moneys  heretofore  actually  expended  from  income  for  any  of  the  aforesaid  pxirposes, 
except  maintenance  of  service  and  replacements,  prior  to  five  years  next  preceding  the 
filing  of  an  application  therefor,  if  in  the  judgment  of  the  Commission  such  consent 
should  be  granted;  provided  appUcation  for  such  consent  shall  be  made  prior  to  Jan- 
uary first,  nineteen  himdred  and  twelve. 

This  clause  was  evidently  intended  to  cover  cases  of  alleged  expenditure 
where  accounts  and  vouchers  were  not  available,  but  where  the  Com- 
mission might  nevertheless  feel  convinced  that  a  corporation  had  made 
expenditures  for  proper  capital  purposes.  The  time  limit  of  January 
first,  1912,  gave  corporations  fair  warning  that  in  future  complete  records 
and  vouchers  must  be  available  if  the  approval  of  securities  to  reimburse 
the  treasury  were  to  be  allowed  by  the  Conmiission.  Five  years  prior  to 
January  1, 1912,  the  time  limit  of  the  discretion  allowed  the  commissions 
in  this  regard,  would  be  January  1, 1907,  or  six  months  prior  to  the  taking 
efifect  of  the  PubUc  Service  Commissions  Law. 

The  original  act  provided  for  thorough  investigation  of  proposed  is- 
sues :  "for  the  purpose  of  enabling  it  to  determine  whether  it  should  issue 
such  an  order,  the  Commission  shall  make  such  inquiry  or  investigation, 
hold  such  hearings  and  examine  such  witnesses,  books,  papers,  documents 
or  contracts  as  it  may  deem  of  importance  in  enabling  it  to  reach  a  deter- 
mination. " 

In  1910  there  was  here  added  a  restriction  upon  the  use  of  the  proceeds 
to  the  effect  that  "such  corporation  shall  not  without  the  consent  of  the 
commission  apply  said  issue  or  any  proceeds  thereof  to  any  purpose  not 
specified  in  such  order. ' '  The  Commissions  in  actual  practice  allow  addi- 
tional elasticity  in  expenditure  where  they  deem  it  necessary.  It  was 
provided^  that  notes  for  "proper  corporate  purposes  and  not  in  violation 
of  any  provision  of  this  chapter  or  any  other  act"  could  be  issued  for 
periods  of  not  more  than  twelve  months  without  the  consent  of  the  com- 
missions, but  was  further  provided  that  no  such  notes  should  be  refunded 
into  stock,  bonds,  or  other  evidence  of  indebtedness  running  for  more  than 
twelve  months,  "in  whole  or  in  part,  directly  or  indirectly, "  without  the 
consent  of  the  proper  commission. 

The  same  sections  expressly  forbid  the  commissions  to  authorize  the 
capitalizations  of  f ranchises,^"  and  also  restrict  the  commissions'  approval 

•See  sections  55,  69,  82,  101. 

"  Sections  55,  69,  82,  101;  as  to  capitaJization  of  franchises  it  is  provided  that  the 
commissions  "shall  have  no  power  to  authorize  the  capitalization  of  any  franchise  to 
be  a  corporation  or  to  authorize  the  capitalization  of  any  franchise  or  the  right  to 
Own,  operate  or  enjoy  any  franchise  whatsoever  in  excess  of  the  amount  (exclusive  of 
any  tax  or  annual  charge)  actually  paid  to  the  state  or  to  a  political  subdivision  thereof 
as  the  consideration  for  the  grant  of  such  franchise  or  tight;  ..." 


14  CAPITAL  CONTROL  IN  NEW  YORK 

of  the  amount  of  capital  stock  of  a  corporation  formed  by  merger  or 
consolidation  to  a  maximum  of  the  sum  of  the  capital  stock  of  the  cor- 
porations so  consolidated.^' 

The  act  of  1907/^  the  original  Public  Service  Commissions  Law,  made 
all  transfers  of  franchises  or  stock  subject  to  the  approval  of  the  Com- 
missions.^' 

Stock  transfers  were  restricted  by  the  same  section  as  follows: 

No  railroad  corporation,  street  railroad  corporation  (or  electrical  corporation), 
domestic  or  foreign,  shall  hereafter  purchase  or  acquire,  take  or  hold,  any  part  of  the 
capital  stock  of  any  railroad  corporation  or  street  railroad  corporation  or  other  com- 
mon carrier  organized  or  existing  under  or  by  virtue  of  the  laws  of  this  state,  unless 
authorized  so  to  do  by  the  commission  empowered  by  this  act  to  give  such  consent;  and 
save  where  stock  shall  be  transferred  or  held  for  the  purpose  of  collateral  security  only 
with  the  consent  of  the  commission  empowered  by  this  chapter  to  give  such  consent, 
no  stock  corporation  of  any  description,  domestic  or  foreign,  other  than  a  railroad 
corporation,  street  railroad  corporation,  (or  electrical  corporation)  shall  purchase  or 
acquire,  take,  or  hold,  more  than  ten  per  centum  of  the  total  capital  stock  issued  by 
any  railroad  corporation  or  street  railroad  corporation  or  other  common  carrier  organ- 
ized or  existing  under  or  by  virtue  of  the  laws  of  this  state." 

All  corporations  subject  to  the  Public  Service  Commissions  are  re- 
quired to  file  an  annual  report.     The  commissions  are  given  power  to 

"  Restriction  of  the  amount  of  capital  stock  to  be  issued  by  a  corporation  resulting 
from  merger  or  consolidation  was  provided  for  as  follows  (see  same  sections  of  the  law 
as  above):  "Nor  shall  the  capital  stock  of  a  corporation  formed  by  the  merger  or 
consolidation  of  two  or  more  other  corporations,  exceed  the  sum  of  the  capital  stock 
of  the  corporations  so  consolidated,  at  the  par  value  thereof,  or  such  sum  and  any 
additional  sum  actually  paid  in  cash;  nor  shall  any  contract  for  consolidation  or  lease 
be  capitalized  in  the  stock  of  any  corporation  whatever;  nor  shall  any  corporation 
hereafter  issue  any  bonds  against  or  as  a  lien  upon  any  contract  for  consolidation  or 
merger." 

«  Chapter  429,  Laws  for  1907. 

"  Section  54  provided  as  follows:  "No  franchise  nor  any  right  to  or  vmder  any 
franchise,  to  own  or  operate  a  railroad  or  street  railroad  shall  be  assigned,  transferred 
or  leased,  nor  shall  any  contract  or  agreement  with  reference  to  affecting  any  such 
franchise  or  right  be  valid  or  of  any  force  or  effect  whatsoever,  unless  the  assignment, 
transfer,  lease,  contract  or  agreement  shall  have  been  approved  by  the  proper  com- 
mission. The  permission  and  approval  of  the  commission  .  .  .  shall  not  be  construed 
to  revive  or  validate  any  lapsed  or  invalid  franchise,  or  to  enlarge  or  add  to  the  powers 
and  privileges  contained  in  the  grant  of  any  franchise,  or  to  waive  any  forfeiture. " 

See  also  sections  70,  83,  and  100,  for  similar  sections  dealing  with  gas  and  electric, 
steam,  and  telegraph  and  telephone  corporations,  respectively. 

"At  this  point  there  was  added  in  1911  (Ch.  788,  Sec.  1,  Laws  of  1911),  the 
following  clause:  "except  that  a  corporation  now  lawfully  holding  a  majority  of  the 
capital  stock  of  any  railroad  corporation  or  street  raUroad  corporation  may  with  the 


CAPITAL  CONTROL  IN  NEW  YORK  IS 

prescribe  the  forms  of  reports/^  and  must  furnish  corporations  under 
their  jurisdiction  with  such  blank  forms  on  or  before  June  30th.  The 
report  must  be  filed  by  September  30th  in  the  case  of  railroads  and  street 
railways,  and  in  the  cases  of  the  other  classes  of  corporations  the  fixing  of 
dates  is  left  to  the  discretion  of  the  Commissions. 

The  General  Railroad  Law  of  1910 

In  1910  various  changes  were  made  in  the  General  Railroad  Law  as 
enacted  in  1890/^  and  amended  in  1892,"  and  the  law  as  thus  amended 
constitutes  the  General  Railroad  Law  as  now  in  force.^^ 

Under  an  act  of  1909,  it  had  been  made  illegal  to  consolidate  a  turmel 
or  subsurface  railroad  exceeding  five  miles  in  length.^^  In  1910  this  re- 
striction was  removed.^'' 

Section  155  provided  that  the  consoUdation  of  a  domestic  railroad 
corporation  with  a  foreign  railroad  corporation,  effected  prior  to  March 
10,  1903,  should  not  be  deemed  invaUd  because  such  roads  at  the  time 
of  the  consoUdation  did  not  form  a  continuous  and  connected  line,  if, 
when  the  consolidation  was  effected,  or  thereafter,  an  intermediate  line, 
by  purchase  or  by  lease  of  not  less  than  99  years,  became,  with  the  con- 
soHdated  roads,  a  continuous  and  connecting  Une  of  railroad.  Section 
141,  subdivision  1,  of  the  law  of  1910  provides  that  the  capital  stock  of 
such  a  consoHdated  corporation  shall  not  exceed  the  sum  of  the  capital 
stock  of  the  corporations  so  consolidated  at  par,  and  that  no  bonds  or 


consent  of  the  commission  acquire  and  hold  the  remainder  of  the  capital  stock  of  such 
railroad  corporation  or  street  railroad  corporation  or  any  portion  thereof." 

The  original  act  further  provides,  as  follows:  "Nothing  herein  contained  shall 
be  construed  to  prevent  the  holding  of  stock  heretofore  lawfully  acquired,"  to  which 
was  Ukewise  added  in  1911  (Ch.  788,  Sec.  1  as  above)  the  following:  "or  to  prevent, 
upon  the  surrender  or  exchange  of  said  stock  pursuant  to  a  reorganization  plan,  the 
purchase,  acquisition,  taking  or  holding  of  a  proportionate  amoimt  of  stock  of  any 
new  corporation  organized  to  take  over,  at  foreclosure  or  other  sale,  the  property  of 
any  corporation  whose  stock  has  thus  been  surrendered  or  exchanged,  or,  subject  to 
approval  by  the  commission,  of  any  further  issue  of  stock  provided  such  further  issue 
does  not  increase  the  proportion  of  stock  held  by  such  stock  corporation." 

«  Chapter  429,  Laws  of  1907,  sections  46,  66,  80  and  95. 

"  Chapter  565,  Laws  of  1890. 

"  Chapter  676,  Laws  of  1892. 

"  Chapter  481,  Laws  of  1910. 

"  Chapter  564,  section  1,  Laws  of  1909. 

"  Chapter  481,  section  140,  Laws  of  1910. 


16  CAPITAL  CONTROL  IN  NEW  YORK 

other  evidences  of  debt  shall  be  issued  as  a  consideration  for  or  in  con- 
nection with  such  a  consolidation.^^ 

Merger  of  lessor  companies,  as  provided  for  in  the  railroad  law  of 
1890,^^  was  made  subject  to  approval  of  the  proper  commission.^  Under 
the  law  of  1890,^*  railroad  corporations  owning  or  operating  competing 
lines  were  forbidden  to  merge  or  consolidate,  but  in  1892  street  railways 
had  been  excepted,  and  the  consolidation  or  merger  of  other  railroads 
with  competing  lines  was  made  subject  to  the  board  of  railroad  commis- 
sioners.^^ In  1910  such  action  was  made  subject  to  the  consent  of  the 
proper  commission.^ 

Permission  for  a  railroad  corporation  to  contract  with  another  rail- 
road corporation  for  the  use  of  its  road,  as  provided  in  the  law  of  1890^^ 
and  permission  to  exchange  or  guarantee  securities,^^  were  made  subject 
to  the  approval  of  the  proper  commission  in  1910.^^It  had  been  provided 
in  1899  that  no  railroad  corporation  should  issue  mortgages,  except  pur- 
chase-money mortgages,  without  the  consent  of  the  board  of  railroad 
commissioners.^"  This  was  now  made  subject  to  the  consent  of  the  Pub- 
lic Service  Commissions.^^ 

The  Public  Service  Commissions  Law  as  enacted  in  1907  formed  chap- 
ter 429,  Laws  of  1907.  As  amended  and  reenacted  in  1910,  it  is  known 
as  Chapter  480,  Laws  of  1910,  and  constitutes  Chapter  Forty-Eight  of 
the  Consolidated  Laws. 

The  Public  Service  Commissions  Law,  as  reenacted  in  1910,  was 
amended  in  1912.^^  ^^he  amendment  applied  exclusively  to  reorganiza- 
tions and  sought  to  give  the  commissions  specific  powers  which  would 
place  their  jurisdiction  in  such  cases  beyond  dispute.  This  amendment 
was  added  to  the  various  sections  of  the  Public  Service  Commissions  Law 
which  governed  the  issue  of  securities.    Ii  consisted  of  two  sections,  the 

**  See  chapter  565,  section  71,  subd.  1,  Laws  of  1890. 
^  Chapter  565,  section  79,  Laws  of  1890. 
>»  Chapter  481,  section  149,  Laws  of  1910. 
«  Chapter  565,  section  80,  Laws  of  1890. 
«*  Chapter  676,  section  80,  Laws  of  1892. 
»•  Chapter  481,  section  150,  Laws  of  1910. 
"  Chapter  565,  section  78,  Laws  of  1890. 
"  Chapter  676,  section  78,  Laws  of  1892. 
"  Chapter  481,  section  148,  Laws  of  1910. 
'« Chapter  583,  section  1,  Laws  of  1899. 
"  Chapter  481,  section  8,  subd.  10,  Laws  of  1910. 

«  Chapter  289,  section  1,  Laws  of  1912.  Sections  55,  69,  82,  and  101  each  had 
this  amendment  added  to  them  as  55a,  69a,  82a,  and  101a,  respectively. 


CAPITAL  CONTROL  IN  NEW  YORK  17 

first  of  which  provided  that  reorganizations  of  utility  corporations  be- 
longing to  the  classes  of  utilities  subject  to  the  jurisdiction  of  the  commis- 
sions, which  reorganizations  had  been  made  pursuant  to  sections  nine 
and  ten  of  the  stock  corporation  law  or  any  other  laws  subsequently  en- 
acted, should  be  "subject  to  the  supervision  and  control  of  the  proper 
commission  and  no  such  reorganization  shall  be  had  without  the  authori- 
zation of  such  commission. " 

In  reorganization  cases  prior  to  this  time  (1912),  notably  in  the 
Third  Avenue  case,  the  jurisdiction  of  the  commissions  had  been  chal- 
lenged, and  their  powers  to  base  the  amount  of  securities  to  be  issued 
pursuant  to  a  reorganization  upon  the  value  of  the  property  had  been 
denied.  The  courts  had  been  unwilling  to  support  the  commissions 
upon  this  issue  on  the  ground  that  the  Public  Service  Commissions  Law, 
as  originally  enacted  in  1907,  did  not  give  the  commissions  specific 
powers  in  such  cases,  while  the  pre-existing  reorganization  law  (sections 
nine  and  ten  of  the  stock  corporation  law)  did  give  corporations  specific 
powers.  Section  Two  of  the  1912  amendment,  discussed  above,  aimed 
to  give  to  the  commissions  the  specific  powers  which  they  lacked.^ 

"  Section  2,  chapter  289,  Laws  of  1912,  incorporated  under  sections  55a,  69a,  82a, 
and  101a,  of  the  Public  Service  Conunissions  Law,  provided  as  follows:  "Upon  all 
such  reorganizations  the  amount  of  capitalization,  inclviding  therein  all  stocks  and 
bonds  and  other  evidence  of  indebtedness,  shall  be  such  as  is  authorized  by  the  com- 
mission which  in  making  its  determination  shall  not  exceed  the  fair  value  of  the  proper- 
ty involved,  taking  into  consideration  its  original  cost  of  construction,  dl^)lication 
cost,  present  condition,  earning  power  at  reasonable  rates  and  all  other  relevant  matters 
and  any  additional  smn  or  sxmis  as  shall  be  actually  paid  in  cash,  provided,  however, 
that  the  commission  may  make  due  allowance  for  discount  of  bonds.  Any  reorganiza- 
tion agreement  before  it  becomes  effective  shall  be  amended  so  that  the  amount  of 
capitalization  shall  conform  to  the  amoimt  authorized  by  the  Commission." 


PART  TWO 
ORIGINAL  COMPANIES 

.  CHAPTER  III 

Amount  of  Capitalization  Permissible 

The  applications  of  new  companies  constitute  the  simplest  class  of 
cases  involving  approval  of  security  issues.  Some  of  the  cases  included 
were  not  original  in  that  the  appHcant  had  no  outstanding  capitalization, 
but  the  existing  amounts  of  the  latter  were  relatively  small  and  in  the 
principles  involved  such  cases  fall  within  this  category. 

The  principal  questions  considered  have  been  the  amount  of  capitali- 
zation which  could  properly  be  permitted,  and  the  relative  proportion  of 
stock  to  bonds.  The  amount  of  capitalization  can  be  but  approximate 
because  of  the  contingencies  met  with  in  construction  work,  and  the 
fluctuating  prices  of  materials. 

In  fixing  the  proportion  of  stock  to  bonds  the  object  is  to  control 
any  tendency  toward  what  is  popularly  known  as  'wild-catting,'  that  is, 
the  promotion  of  enterprises  upon  such  meagre  capital  as  to  render  them 
largely  speculative.  The  object  is  also  to  compel  promoters  of  an  enter- 
prise to  furnish  sufficient  capital  to  provide  a  moral  guaranty  of  their 
faith  in  its  financial  success.  This  is  necessary  for  two  reasons;  to  give 
conservative  investors,  that  is  prospective  bondholders,  a  reasonable 
protection  against  the  annoyance  and  loss  attendant  upon  foreclosure 
proceedings,  and,  also,  to  save  the  consumers  of  pubhc  utility  corpora- 
tions from  the  interruptions  of  service  consequent  upon  default  of  bond 
interest  and  change  of  control. 

To  insure  the  practical  execution  of  their  poUcies  the  Commissions 
impose  stringent  requirements  in  the  carrying  out  of  the  work  involved, 
such  as  the  auditing  by  the  Commission's  accountants  of  the  vouchers 
for  the  various  items  of  expenditure,  frequent  reports  to  the  Commission 
by  the  corporation,  inspections  of  the  progress  of  the  work  by  the  engi- 
neering staff  of  the  Commission,  and,  of  especial  importance,  provisions 
for  the  amortization  of  bond-discount,  and  for  setting  aside  reserves  to 
meet  depreciation  of  the  physical  property. 

The  practice  of  awarding  contracts  for  construction  work  to  so-called 
"construction  companies,"  organized  and  managed  by  individuals 
prominent  in  the  management  of  the  corporation  itself,  has  been  con- 
demned by  the  New  York  Commissions  as  a  subterfuge  for  the  payment 
of  unwarranted  profits  to  the  individuals  interested.^ 

^ "  ...  Interior  construction  companies,  a  device  which  will  at  all  times  re- 
ceive the  condemnation  of  this  Commission  so  far  as  it  has  any  power  or  jurisdiction  in 


CAPITAL  CONTROL  IN  NEW  YORK  19 

Actual  cost  has  been  recognized  by  both  commissions  as  the  proper 
basis  for  capitalization;  cos t-of-reproducti on-new  has  been  rehed  upon 
only  in  cases  where  the  records  of  original  cost  were  not  available,  and 
then  merely  as  one  of  several  means  of  arriving  at  a  determination. 

A  hard  and  fast  program  of  expenditures  often  proves  inexpedient  for 
the  best  interests  of  the  corporation.  This  is  due  to  rapidly  changing 
needs,  improvements  in  machinery,  and  similar  reasons.  The  necessary 
elasticity  in  the  expenditure  of  proceeds  of  securities  has  been  provided 
by  an  arrangement  which  has  proved  mutually  satisfactory  to  the  Com- 
missions and  to  the  corporations.  Under  this  arrangement  the  corpora- 
tion is  free  to  use  its  judgment  as  to  the  specific  item  of  expenditure,  as, 
for  instance,  whether  it  shall  purchase  a  new  boiler  or  a  new  generator. 
Each  item  of  outlay,  however,  will  be  subject  to  the  approval  of  the 
respective  Commission  before  it  can  be  charged  to  capital  account. 
Thus  the  corporation  knows  beforehand  that  any  items  not  properly 
chargeable  to  capital  will  have  to  be  met  from  current  income. 

Tangible  Elements  of  Cost 
One  of  the  first  cases  involving  a  large  amount  of  new  construction 
to  come  up  in  New  York  State  after  the  enactment  of  the  Pubhc  Service 
Commissions  Law  was  that  of  the  Rochester  Corning  Elmira  Traction 
Company,^  referred  to  hereafter  as  the  Rochester  Corning  case.  This 
company  had  been  granted  a  certificate  of  pubhc  convenience  and 
necessity  by  the  Board  of  Railroad  Commissioners'  upon  March  22, 1907. 
The  capital  stock  authorized  by  the  articles  of  association  consisted  of 
40,000  shares  of  common  stock  of  $100  par  value,  or  a  total  of  $4,000,000. 
Of  this  $120,000  had  been  issued,  leaving  $3,880,000  unissued.  The 
appHcant  now  asked  for  authorization  to  issue  the  remaining  $3,880,000 
stock;  also  for  the  execution  of  a  mortgage  upon  its  property  to  secure 
bonds  to  the  amount  of  $8,000,000  and  authority  to  issue  bonds  to  this 
amount. 

the  matter. "  (Matter  of  application  of  the  Rochester  Coming  Elmira  Traction  Com- 
pany. 1  P.S.C.R.  2nd  Dist.  N.  Y.  166.  Decided  March  30,  1908.  See  top  of  page 
189).  "The  Commission  does  not  favor  the  formation  of  a  construction  company  by 
the  persons  who  control  the  corporation  with  which  such  construction  company  is  to 
do  busmess."  (Matter  of  application  of  the  New  York  and  North  Shore  Traction 
Company.  3  P.S.C.R.  1st  Dist.  N.  Y.  63.  Opinion  adopted  February  13,  1912. 
See  page  80). 

*  Matter  of  application  of  the  Rochester  Corning  Elmira  Traction  Company,  1 
P.S.C.R.  2nd  Dist.  N.  Y.,  166.    Decided  March  30, 1908. 

'  The  Board  of  Railroad  Commissioners  was  created  in  1882  and  expired  automatic- 
ally with  the  installation  of  the  Pubhc  Service  Commissions,  July  1,  1907. 


20  CAPITAL  CONTROL  IN  NEW  YORK 

The  questions  involved  in  the  proposed  issue  of  securities  were  the 
amount  of  capitalization  which  should  be  permitted,  how  the  capitahza- 
tion  should  be  distributed  between  stock  and  bonds,  and  how  the 
construction  of  the  road  should  be  secured  in  accordance  with  the  plans 
upon  which  the  capitahzation  should  be  authorized.  It  seemed  necessary 
to  lay  down  principles  which  should  govern  the  capitalization  of  new 
railroad  corporations  in  order  to  carry  out  both  the  spirit  and  the  letter 
of  the  PubUc  Service  Commissions  Law. 

The  Commission  felt  that  it  could  not  certify  that  any  particular 
amount  of  capital  was  reasonably  required  for  the  purposes  of  a  corpora- 
tion without  a  careful  and  exhaustive  inquiry  into  the  cost  of  the  property 
proposed  to  be  acquired  and  of  the  facihties  proposed  to  be  constructed. 

In  this  case  it  was  held  that  it  was  impossible  to  arrive  at  any  definite 
amount  of  capitahzation  to  be  permitted,  and  the  Commission  stated 
that  the  best  they  could  do  was  not  to  allow  too  much;  that  in  view  of 
the  rapid  and  often  extreme  fluctuations  in  unit  prices,  as,  for  instance, 
in  the  case  of  copper,  accuracy  was  impossible  and  estimates  could  be 
approximate  only.  It  was  better,  however,  the  Commission  felt,  "to 
err  upon  the  side  of  allowing  too  httle  rather  than  too  much,"  as  ad- 
ditional authorizations  of  capital  could  easily  be  arranged  for  whenever 
they  were  shown  to  be  necessary. 

An  order  approving  capitahzation  for  a  new  enterprise,  the  Commis- 
sion held,  should  be  elastic  enough  to  provide  for  additional  amounts  of 
capital,  if  such  were  necessary,  but  such  elasticity,  it  was  pointed  out, 
should  be  so  hedged  about  with  restrictions  that  it  would  be  impossible 
for  a  company  to  secure  more  capital  than  was  necessary  for  the  purposes 
contemplated  by  the  Commission  in  granting  such  authorization. 

A  similar  case — similar  in  that  the  Commission  had  to  feel  its  way — 
was  that  of  the  New  York  and  Ontario  Power  Company.*  The  apphcant 
desired  to  construct  a  hydro-electric  plant  and  distributing  system  at 
Waddington,  on  the  St.  Lawrence  River.  Apphcation  was  made  for 
authority  to  issue  $1,850,000  of  first  mortgage  5  per  cent  bonds,  which  it 
was  proposed  to  sell  at  80  and  to  issue  capital  stock  to  the  amount  of 
$640,000.  The  proceeds  of  securities  were  to  be  invested  in  the  develop- 
ment and  improvement  of  its  water  power  property.  Bonds  and  stock, 
each  to  the  amount  of  $150,000  were  already  outstanding,  having  been 

*  Matter  of  application  of  theNew  York  and  Ontario  Power  Company,  1  P.S.C.R. 
2nd  Dist.  N.  Y.  453.    Decided  January  14, 1909. 


CAPITAL  CONTROL  IN  NEW  YORK  21 

authorized  by  the  former  Commission  of  Gas  and  Electricity.*  Said 
the  commission: 

It  is  obvious  that  in  work  of  this  character  a  preliminary  estimate  is  not  and  can- 
not be  accurate,  contingencies  in  an  undertaking  of  this  kind  are  very  great,  imit 
prices  may  vary  considerably  during  the  progress  of  the  work,  unforeseen  difficulties 
may  be  encoimtered,  and  delays  and  accidents  may  impede  the  progress  of  the  work 
from  time  to  time.  Because  of  these  and  other  reasons  it  is  i  mpossible  to  know 
what  a  work  of  this  extensive  character  will  actually  cost.  It  is  only  possible  for 
this  Commission,  as  well  as  for  the  projectors  of  the  scheme  to  say  that  the  work 
will  cost  approximately  a  certain  sum. 

As  a  result  of  a  detailed  examination  by  its  electrical  engineer  of  the 
various  items  in  the  estimates  submitted,  the  Commission  made  a  com- 
paratively slight  reduction  in  the  proposed  amount  of  capitalization. 

Other  features  of  the  proposed  plan  which  the  Commission  considered, 
were  the  commercial  f  easibiHty  of  the  scheme,  the  amount  of  power  which 
could  be  developed,  the  probable  gross  income,  operating  expenses, 
taxes  and  depreciation. 

As  to  the  ratio  upon  which  the  capitalization  was  to  be  divided  be- 
tween stock  and  bonds,  the  Commission  seemed  inclined  to  accept  the 
proportion  proposed  by  the  appUcant,  mainly,  it  seemed,  because  the 
latter  presented  proof  that  the  bonds  could  readily  be  disposed  of.  If 
sold  at  80  the  yield  upon  the  bonds  would  be  about  6.5  per  cent.  The 
Commission  held  that  for  a  new  enterprise  of  this  character  this  was  not 
an  unreasonable  return. 

In  selling  bonds  at  80  there  would  be  a  bond  discount  of  20  per  cent 
to  be  amortized  during  the  life  of  the  bonds.  It  might  be  noted  in  passing 
that  the  amortization  of  bond  discount  is  provided  for  in  the  Uniform 
Systems  of  Accounts  prescribed  by  the  Conmiissions  (1908),^  and  is 
required  as  a  matter  of  course  in  all  Orders  permitting  issues  of  bonds. 

The  authorization  was  finally  made  to  the  following  effect:  That 
stock  might  be  issued  to  the  amount  of  ^600,000,  to  be  sold  for  cash 
only  at  the  full  par  value.^  In  case  it  was  found  desirable  to  dispose  of 
said  stock  for  property,  further  application  should  be  made  to  the  Com- 
mission, to  the  end  that  upon  such  application  full  mquiry  might  be  made 
as  to  the  value  of  the  property.    Sales  of  stock  should  be  reported  from 

*  The  Commission  of  Gas  and  Electricity  was  created  by  the  New  York  Legisla- 
ture in  1905,  and  Uke  the  Board  of  Railroad  Commissioners  it  expired  automatically 
with  the  installation  of  the  PubUc  Service  Commissions,  July  1, 1907. 

« See  1  P.S.C.R.  2nd  Dist.  N.  Y.  bottom  page  455.  These  systems  took  efifect 
January  1, 1909. 

^  See  Stock  Corporations  Law,  Laws  of  1892,  Section  688. 


22  CAPITAL  CONTROL  IN  NEW  YORK 

time  to  time  as  made,  giving  full  details  of  the  transaction,  including 
name  of  purchaser,  amount  sold,  and  amount  realized;  bonds  might  be 
issued  to  the  par  value  of  ^1,850,000  and  must  be  disposed  of  at  a  mini- 
mum of  81,  instead  of  80,  as  proposed.  A  report  was  required  of  each 
and  every  sale  of  bonds  when  made,  with  a  full  statement  of  the  distri- 
bution of  the  proceeds.  Every  six  months  during  the  progress  of  the 
work  reports  were  to  be  made  of  the  expenditure  of  the  money. 

It  is  hardly  necessary  to  point  out  the  practical  difficulties  which 
confront  a  regulating  body  in  estimating  the  proper  amount  of  securities 
in  a  case  of  this  kind.  Its  powers  may  be  adequate,  but  the  information 
obtainable  is  not.  Hence  approximate  results  are  all  that  can  be  achieved. 
The  accumulation  of  experience  and  data  will,  of  course,  afford  a  basis 
for  more  accurate  approximations  as  time  goes  on. 

Intangible  Elements  of  Cost 

In  addition  to  the  cost  of  the  tangible  property,  there  are  many  in- 
tangible elements  necessarily  attendant  upon  bringing  into  existence  a 
new  utihty  enterprise.  Those  regarded  by  the  Commissions  as  being 
most  commonly  recognized  were  enumerated  as  follows:^ 

(1)  expense  of  organization,  (2)  incorporation  tax,  (3)  expense  of  obtaining  a 
certificate  of  public  convenience  and  necessity,  (4)  preliminary  engineering  expenses, 
(5)  expense  of  procuring  the  authorization  of  issue  of  stock  and  bonds,  (6)  expense 
of  naarketing  the  securities,  (7)  discount  upon  the  bonds  provided  they  can  not  be  sold 
at  par,  (8)  interest  upon  the  bond  issue  during  the  period  of  construction  and  prior 
to  the  beginning  of  operations,  (9)  compensation  of  officers  of  the  road  during  the 
construction  period,  (10)  incidental  expenses  during  construction  period,  (11)  expense 
of  obtaining  local  franchises  and  consents. 

Interest  During  Constriiction  Period 
In  connection  with  the  application  of  the  New  York  and  North  Shore 
Traction  Company,  hereafter  referred  to  as  the  North  Shore  case,  the 
First  District  Commission,  in  its  investigation  and  discussion  of  the 
building  of  the  original  portion  of  the  property,  held  that  the  construction 
period  ended  when  operation  began  and  that  thereafter  it  was  not  proper 
to  charge  interest  upon  cost  to  capital  account,  but  to  pay  it  from  earn- 
ings.^ The  company  contended  that  it  should  be  allowed  to  capitalize 
interest  and  operating  expenses  for  some  six  months  after  the  full  system 
had  been  put  into  operation,  because  the  property  was  in  an  experimental 

8  Rochester  Coming  case  1  P.S.C.R.  2nd  Dist.  N.  Y.  166.    See  page  176. 

•  Matter  of  appUcation  of  the  New  York  and  North  Shore  Traction  Company. 
3  P.S.C.R.  N.Y.  63.  Opinion  adopted  February  13,  1912.  The  ends  of  the  construc- 
tion periods  of  the  various  parts  of  the  road  in  the  North  Shore  case  were  taken  by  the 


CAPITAL  CONTROL  IN  NEW  YORK  23 

stage.  The  Commission  reasoned  that  an  operating  property  never 
really  got  out  of  the  experimental  stage  and  that  if  such  a  principle  were 
once  granted  it  would  open  the  way  to  abuse  owing  to  the  difficulty  in 
drawing  any  line  as  to  when  the  initial  experimental  stage  had  ceased. 
It  was  suggested  that  a  proper  solution  would  be 

To  charge  all  current  expenses  incurred  after  public  operation  begins  to  income 
accoimt,  and  later,  when  receipts  will  permit,  to  distribute  a  sufficient  amoimt  in  divi- 
dends to  equal  a  fair  return  not  merely  for  the  current  years,  but  for  the  early  years 
when  profits  were  lacking." 

Working  Capital 

In  addition  to  these  elements,  it  was  held  in  the  Rochester  Coming 
case  that  a  "  reasonable  amount "  of  working  capital  was  necessary  at  the 
beginning  of  operations.  It  might  be  noted  here  that  in  the  North  Shore 
case,  just  referred  to,  ^150,000  was  asked  for  working  capital  out  of  a 
proposed  capitalization  of  ^2,272,000.  This  amoimt  was  reduced  by  the 
First  District  Commission  to  ^10,000,  pending  further  proof  of  necessity. 
In  England  working  capital  is  not  considered  a  proper  item  of  capitali- 
zation. 

Promoters  Fees 

In  the  Rochester  Coming  case  consideration  was  also  given  to  the 
allo^'ance  of  financial  recognition  for  the  services  of  promoters.  The 
propriety  of  compensation  for  actual  services  rendered  was  assimied, 
but  the  difficulty,  the  Commission  felt,  lay  in  finding  a  method  of  arriving 
at  a  definite  amount.  A  tentative  suggestion  was  made  to  the  effect  that 
a  percentage  be  allowed  upon  the  cost  of  an  enterprise,  the  percentage 
depending  upon  the  merits  of  the  individual  case.  The  Commission 
said  in  discussing  this  case:^" 

It  should  be  clearly  recognized  that  the  system  of  capitalization  of  entirely  new 
enterprises  required  by  the  Public  Service  Commissions  Law  is  such  an  innovation 
upon  estabUshed  practices  which  have  been  found  to  be  replete  with  injury  to  the  pub" 
lie  that  some  time  and  experience  must  be  required  to  work  out  a  completely  satisfac- 
tory method  of  administration." 

Another  instance  of  compensation  to  promoters  came  up  in  the  dis- 

Commission  as  Februarj'  1,  1908;  March  1,  1909;  and  November  1,  1910.  Up  to 
March  1,  1912,  the  company  had  been  unable  to  pay  bond  charges,  and  the  Commis- 
sion stated  that  in  its  opinion  it  would  be  but  fair,  if  future  earnings  should  warrant, 
that  dividends  should  be  paid  to  the  stockholders  from  the  dates  of  the  endings  of  the 
respective  construction  periods  to  March  1, 1912. 

"  See  3  P.S.C.R.  1st  Dist.  N.Y.  middle  page  85. 

"  See  1  P.S.C.R.  2nd  Dist.  N.  Y.  page  178.  Matter  of  application  of  Rochester 
Coming  Elmira  Traction  Company. 


24  CAPITAL  CONTROL  IN  NEW  YORK 

cussion  by  the  Second  District  Commission  of  an  application  of  the 
Hudson  River  and  Eastern  Traction  Company  for  approval  of  security 
issues.^^  Authorization  was  sought,  among  other  things,  for  the  issue 
of  ^50,000  of  stock  to  a  certain  individual,  one  F.  A.  Stratton,  in  settle- 
ment of  claims  for  "services  rendered  in  the  promotion  of  the  enterprise 
and  in  procuring  franchises  and  rights  of  way."  It  was  held  by  the 
Commission  that  the  proof  submitted  was  not  sufficient  to  show  the  extent 
of  the  services,  or  their  value,  and  that  while  Mr.  Stratton  was  entitled 
to  remuneration  for  services  rendered  he  did  not  seem  to  be  entitled  to 
any  such  sum.  The  appUcation  for  the  ^50,000  was  therefore  denied 
pending  further  proof,  if  the  applicant  chose  to  offer  such. 

Percentage  Paid  to  Interior  Construction  Companies  Disapproved 

The  matter  of  the  Application  of  the  New  York  and  North  Shore 
Traction  Company^^  was  technically  a  refunding  case  but  the  important 
factors  of  the  decision  are  germane  to  the  consideration  of  original  com- 
panies. Chief  among  them  is  the  matter  of  *  interior  construction '  com- 
panies. Prior  to  July  1,  1907,  the  date  of  the  assumption  of  control  by 
the  Public  Service  Commissions,  the  applicant  had  received  authority 
to  issue  stock  to  the  amount  of  ^1,250,000  and  bonds  to  the  amount  of 
^1,000,000.  The  original  line  had  been  built  by  a  corporation  known  as 
the  Cleveland  Construction  Company.  Funds  for  construction  had  been 
advanced  to  the  latter  by  the  New  York  and  Nassau  County  Railway 
Syndicate,  composed  of  persons  controlling  the  traction  company.  The 
aforesaid  railway  syndicate  had  in  turn  received  from  the  traction 
company,  its  alter  ego,  ^1 17,000,  par  value,  of  capital  stock  and  ^350,000, 
par  value,  of  first  mortgage  bonds.  These  securities  had  been  trans- 
ferred by  the  construction  company  to  two  individuals,  Stanley  and 
MacElhinney,  acting  in  the  capacity  of  trustees. 

Other  divisions  of  the  property  had  been  built  under  a  contract 
between  the  Railway  Syndicate  and  a  different  construction  company, 
different  in  name  at  least,  the  New  York  and  Nassau  Construction 
Company.  The  same  method  was  pursued,  the  railway  S5mdicate 
advancing  funds  to  the  construction  company,  and  receiving  in  turn 
6  per  cent  notes  from  the  traction  company,  issued  as  follows:  For 
construction  $1,224,612;  interest  on  construction  expenditures,  $89,700; 

"  Matter  of  application  of  the  Hudson  River  and  Eastern  Traction  Company,  3 
P.S.C.R.  2nd  Dist.  N.  Y.  172.    Decided  December  27, 1911. 


CAPITAL  CONTROL  IN  NEW  YORK  25 

engineering,  superintendence,  promotion  fees,  legal  services  and  expenses 
$275,538;  making  a  total  of  $1,589,850,  These  notes  were  transferred 
as  before  to  the  two  trustees,  so  that  at  the  time  of  this  apphcation  all 
the  outstanding  stock  (except  $5,000  par  value),  and  all  the  bonds  and 
outstanding  notes  were  owned  by  certain  persons  acting  through  the 
two  trustees.    These  securities  totalled  approximately  $2,057,000, 

The  applicant  now  asked  permission  to  replace  the  existing  $1,000,000 
mortgage  with  one  for  $3,000,000,  and  to  issue  bonds  to  the  amount  of 
$1,500,000  thereunder.  Of  these  proposed  bonds,  $350,000  were  to  be 
used  to  refund  the  outstanding  bonds  of  the  same  amount  and  $1,150,000 
to  be  issued  to  said  trustees  at  a  discount  of  15  per  cent  in  part  payment 
of  the  notes  held  by  them.  Additional  capital  stock  was  to  be  issued 
to  the  amount  of  $771,764,  of  which  $612,350  was  to  be  issued  to  said 
trustees  in  further  payment  of  the  notes  held  by  them;  $9,415  to  reim- 
burse income  for  road  and  equipment  expenditures,  and  $150,000  for 
working  capital;  thus  practically  all  the  proposed  bonds  and  stock  were 
to  be  exchanged  for  the  notes  held  by  the  trustees. 

As  noted  above,  the  Commission  held  that  the  construction  period 
ended  when  operation  began,  and  that  thereafter  it  was  not  proper  to 
charge  interest  upon  cost  to  capital  account  but  to  pay  it  from  earnings. 

Under  the  circumstances  in  this  case,  February  1,  1908,  was  adopted 
as  the  end  of  the  construction  period  for  the  original  part  of  the  road. 
The  investigation  showed  that  upon  this  date  this  part  of  the  road 
represented  an  investment  of  not  over  $355,000  as  against  a  capitaliza- 
tion of  $117,000  par  value  of  stock,  and  bonds  to  the  amount  of  $350,000 
— a  total  of  $467,000.  If  the  stock  represented  par  value,  as  required 
by  law,  the  bonds  would  represent  property  value  of  $235,000.  If  the 
bonds  had  been  issued  at  80  this  would  bring  the  $235,000  up  to  $280,000, 
and  if  the  period  from  February  1,  1908  to  July  31,  1911  were  to  be 
regarded  as  a  period  upon  which  interest  could  be  charged  to  capital, 
as  contended  by  the  company,  this  would  bring  the  amount  up  to 
$350,000.  This  would  have  been  the  payment  of  three  years  of  opera- 
tion out  of  capital. 

The  construction  of  the  original  part  of  the  road  did  not  seem  to 
have  been  subject  to  flagrant  abuse  in  the  matter  of  capitalization,  but 
the  other  parts  of  the  system  had  been  built  under  a  different  arrange- 
ment, with  a  different  construction  company,  the  New  York  and  Nassau 
Construction  Company,  a  New  Jersey  corporation.  Both  the  traction 
company,  and  the  construction  company,  however,  were  controlled  by 
the  same  individuals.    The  contract  between  the  traction  company  and 


26  CAPITAL  CONTROL  IN  NEW  YORK 

the  construction  company  provided  merely  that  the  "construction, 
installation  and  operation  described,  contemplated  or  done  under  this 
agreement"  should  be  satisfactory  to  the  president  of  the  traction  com- 
pany, while  the  latter  agreed  to  pay  the  construction  company  "the 
actual  cash  cost,"  including  law  expenditures,  taxes,  and  any  damages 
for  which  the  construction  company  might  be  liable.  In  addition  the 
construction  company  was  to  be  paid  the  following  percentages: 

(a)  10  per  cent  upon  labor  and  services  and  15  per  cent  upon  materials  and  property. 
This  in  practice  had,  when  added  to  the  "actual  cash  cost",  formed  a  new  basis 
upon  which  were  computed: 

(b)  10  per  cent  for  engineering  and  superintendence; 

(c)  1}/2  per  cent  for  "services  in  obtaining  franchises  and  other  rights,  interesting 
investors  in  the  enterprise,  temporary  financing  and  other  necessary  promotion  and 
financing  in  connection  with  this  agreement," 

(d)  5  per  cent  for  "the  necessary  legal  services  and  expenses  required  in  carrying  out 
the  purposes  of  this  agreement."^' 

These  percentages  would  have  totalled  from  ^2)}/2  to  39  per  cent, 
but  in  view  of  the  fact  that  only  a  small  part  of  the  work  was  done 
directly  by  the  construction  company,  they  amounted  to  nearly  50  per 
cent  on  the  major  portions  of  the  work."  Upon  the  basis  of  these  charges 
the  outstanding  notes  were  made  up  according  to  the  company's  state- 
ment, as  follows  :^^ 

13  See  3'P.S.C.R.  1st  Dist.  N.  Y.  63. 

"  See  3|P.S.C.R.  1st  Dist.  N.  Y.  page  76. 

"  In  the  estimates  submitted  by  the  Coney  Island  and  Brooklyn  Railroad  (2 
P.S.C.R.  1st  Dist.  N.  Y.  336.  Opinion  adopted  July  29,  1910)  the  Commission  ap- 
proved ten  per  cent  for  contractor's  'overhead,'  and  charges,  and  profit  upon  the 
entire  cost  of  labor  and  materials.  This  also  included  an  allowance  to  cover  the  over- 
head charges  of  the  general  contractor.  Ten  per  cent  was  also  allowed  for  engineering 
and  incidentals,  and  was  divided  into  two  parts:  First,  engineering,  and  second,  inci- 
dentals, including  superintendence,  inspection  and  contingencies.  By  the  latter  was 
meant  expenses  that  might  arise  in  the  coiu-se  of  construction  which  were  not  antici- 
pated when  the  estimate  was  made,  together  with  loss  or  wastage  of  material.  There 
was  an  item  of  $12,051  of  expenses  incurred  in  connection  with  procuring  the  right  to 
relocation  and  construction.  These  expenses  included  condemnation  proceedings, 
consents  of  public  authorities  and  property  owners,  litigations,  negotiations,  canvas- 
sers expenses,  printing  engineers'  services,  condemnation  commissioners,  real  estate 
experts  and  attorney's  disbursements.  In  addition,  there  were  attorney's  fees  to  the 
amount  of  $50,000,  making  $62,200  in  all.  The  Commission  regarded  two  to  five  per 
cent  as  the  usual  percentage  for  legal  work  in  connection  with  construction,  but  in  con- 
sideration of  the  legal  difficulties  involved  in  the  present  case,  it  was  decided  to  aUow 
bonds  to  be  issued  for  this  amount  upon  condition  that  one-half  be  allowed  to  be  per- 
manently capitalized,  and  the  other  half  paid  off  in  twenty  years  by  the  creation  of  a 
sinking  fund,  although  bonds  would  be  permitted  for  such  half. 


CAPITAL  CONTROL  IN  NEW  YORK  27 

Actual  net  cost                                       '  $1,072,239.53 

A— Contractor's  profit 152,372.89 

B — Engineering  and  superintendence 122,461.24 

C — Securing  franchises  and  promotion 91,845.93 

D — Legal  expenses 61,230.62 

Interest  during  construction 89,699.28 

Total $1,589,849.49 

A  thorough  investigation  by  the  Commission  placed  the  actual  cost 
at  $1,169,042,  net  counting  interest.  The  appUcant,  meanwhile,  modi- 
fied its  claim  to  $1,500,150,  which  left  it  still  in  the  position  of  asking 
approval  of  securities  in  excess  of  actual  payments  to  the  extent  of 
$330,000. 

This  seemed  to  be  a  typical  case  of  the  interior  construction  com- 
pany, a  dummy  corporation  formed  for  the  purpose  of  enabling  a  favored 
few  to  divert  a  portion  of  the  security  proceeds  to  their  own  pockets. 
This  form  of  abuse  is  responsible  for  much  of  the  existing  inflation  in 
railroad  securities.     The  Commission  expressed  itself  as  follows : 

Ordinarily  when  recourse  is  had  to  construction  companies  it  is  because  they  have 
better  facilities  for  purchasing  supplies,  can  obtain  lower  prices,  and  have  a  more  expert 
and  competent  engineering  staff — because  the  traction  company  believes  the  construc- 
tion company  can  provide  a  better  and  cheaper  plant  than  it  could  build  if  it  were  to  do 
the  work  directly.  But  there  is  no  such  justification  in  this  case.  The  construction 
company  here  did  not  exist  previously;  it  had  no  staff  of  engineers  or  organization; 
it  had  no  favorable  connection  with  supply  houses;  it  had  no  experience;  it  had  nothing 
which  the  traction  company  itself  did  not  have.  The  traction  company  could  have 
done  all  oi  the  work  with  equal  facility  and  with  the  same  results.^' 

As  the  Commission  pointed  out,  the  two  parties  to  the  construction- 
company  contract  were  nominally  distinct  corporations,  but  were  actually 
controlled  by  the  same  persons,  and  thus  the  contract  was  not  an  expres- 
sion of  the  free  play  of  open  competition  of  the  relation  between  a  willing 
buyer  and  a  willing  seller,  but  a  "document  signed  by  persons  acting 
one  moment  in  one  capacity  and  the  next  in  another. "  The  contractor 
company  might  have  been  given  50  per  cent  instead  of  10,  for  in  reality 
what  the  individuals  paid  out  as  the  traction  company  they  got  back  as 
the  construction  company.^^ 

In  the  Manhattan  and  Queens  case,  where  similar  conditions  pre- 
vailed, the  First  District  Commissions  held  in  regard  to  a  contract  be- 

i«  See  3  P.S.C.R.  1st  Dist.  N.  Y.  page  76. 

"  See  middle  page  79, 3  P.S.C.R.  1st  Dist.  N.  Y. 


28  CAPITAL  CONTROL  IN  NEW  YORK 

tween  the  corporation  and  the  construction  company  that,  "the  two 
companies  were  so  closely  related  that  the  construction  contract  was  not 
an  agreement  between  separate  and  distinct  companies  having  no  com- 
mon interest,  but  a  document  signed  by  two  parties  representing  a  single 
interest.  "^^ 

It  was  further  held  that  such  a  contract  had  no  probative  force. 

The  opinion  in  this  case  pointed  out  that  if  a  construction  company 
was  entirely  distinct  from  the  operating  company,  if  the  persons 
controlling  the  one  had  no  connections  with  the  individuals  controlling 
the  other,  then,  in  that  case,  an  operating  company  would  not  make  a 
contract  with  a  construction  company  unless  it  had  reason  to  believe 
that  it  could  save  money  by  so  doing,  as  compared  with  doing  the  work 
directly.  In  such  a  case,  the  Commission  pointed  out,  the  operating 
company  would  invite  bids  from  competing  construction  companies. 
Under  such  conditions  there  would  be  no  room  for  such  percentages  for 
overhead  charges  as  existed  in  the  present  contract.  Further,  it  was 
held,  where  persons  heavily  interested  in  the  operating  company  had  no 
interest  in  construction  companies,  their  own  self-interest  would  cause 
them  to  invest  as  Uttle  as  necessary  to  the  end  that  the  return  on  invest- 

18  The  following  instance  of  a  recent  ruling  (April,  1917)  by  a  board  of  referees  in 
connection  with  a  case  involving  a  typical  interior  construction  company  may  be  of 
interest  in  connection  with  the  above  discussion:  In  a  suit  brought  by  the  City  of 
New  York  against  the  Empire  City  Subway  Company,  Ltd.,  the  capitalization  of  the 
company  was  subjected  to  a  thorough  investigation,  in  the  course  of  which  it  appeared 
that  a  large  part  of  the  construction  work  had  been  done  by  a  construction  company 
which,  in  the  words  of  the  referees  appointed  to  pass  upon  the  case,  "was  in  fact  the 
construction  force  of  the  Empire  transferred  to  a  new  corporation  created  by  the  creat- 
ors of  the  Empire."  This  construction  company  had  received  15  per  cent  profit 
upon  cost  of  construction.  The  referees,  in  ruling  upon  this  15  per  cent  question,  held 
that  in  letting  out  contracts  to  its  own  construction  company  the  Empire  Company 
had  brought  an  additional  person  into  the  work  of  providing  subways  and  that  com- 
pensation for  this  third  person  was  necessarily  added  to  the  cost.  "In  view  of  the 
fact,"  ruled  the  referees,  "that  this  additional  person  was  not  at  the  time  an  inde- 
pendent contractor  of  experience  and  with  a  trained  force  and  did  not  even  own  an 
independent  plant,  equipment,  etc.,  but  received  them  by  transfer  from  the  Empire 
City  Company  and  was  in  fact  the  construction  force  of  the  Empire  transferred  to  a 
new  corporation  created  by  the  creators  of  the  Empire,  we  are  not  prepared  to  allow 
the  15  per  cent  on  its  cost  paid  to  the  Union  (such  new  corporation  so  created)  imless 
it  were  shown  aflBirmatively  and  clearly  that  the  whole  cost  charged — actual  by  con- 
tractor plus  its  percentage^ — did  not  exceed  what  it  would  have  cost  had  the  original 
method  been  pursued,  the  Empire  using  its  plant,  equipment,  etc.,  and  receiving  its  pay 
for  engaging  in  the  enterprise,  not  from  any  percentage  of  actual  cost,  but  in  some 
other  way." 


CAPITAL  CONTROL  IN  NEW  YORK  29 

merit  might  be  as  large  as  possible.  But  where  a  majority  in  interest 
of  the  stockholders  of  an  operating  company,  consisting  generally  of  a 
chque  of  "insiders,"  also  controlled  a  construction  company,  which 
often  was  organized  for  the  occasion,  in  such  a  case  it  was  to  the 
interest  of  this  clique  to  make  a  contract  with  the  construction 
company  by  which  the  latter  would  get  exorbitant  profits.  The 
minority  stockholders  sufifered  for  the  enrichment  of  the  small  clique, 
and  the  consuming  pubHc  would  be  made  to  suffer  to  the  extent  to  which 
rates  could  be  fixed  by  the  management. 

"The  Commission,"  the  opinion  in  the  North  Shore  case  stated, 
"does  not  favor  the  formation  of  a  construction  company  by  the  persons 
who  control  the  corporation  with  which  such  construction  company  is 
to  do  business.  "^^ 

The  circumstances  in  this  class  of  cases  all  go  to  show  that  contracts 
with  interior  construction  companies  are  used  as  a  means  of  inflating 
security  issues.  They  help  to  cause  a  multipHcity  of  inter-company 
relations  which  obscure  the  real  conditions.  In  the  case  under  discus- 
sion an  individual  who  was  an  officer  in  both  the  traction  company  and 
the  construction  company  frankly  admitted  one  reason  for  such  an  ar- 
rangement in  the  following  language:  "In  the  first  place,  the  people 
who  were  in  this  concern,  and  who  had  put  their  money  into  it,  wanted 
to  have  a  contract  that  would  give  them  as  much  of  the  securities  as  they 
could  get  out  of  it.  "^^ 

In  the  original  hearing  upon  the  application  of  the  Longacre  Light 
and  Power  Company  for  permission  to  issue  securities  the  fact  was 
brought  out  that  the  appHcant  had  already  entered  into  a  contract  with 
a  corporation  known  as  the  American  and  British  Manufacturing  Com- 
pany. It  followed  that  if  the  Commission  granted  the  application  the 
proceeds  of  the  proposed  securities  would  be  expended  in  accordance  with 
the  terms  of  this  contract.  The  contract  provided,  among  other  things, 
that  the  apphcant  should  pay  the  net  cost  of  all  apparatus,  materials 
and  work  provided  by  the  A.  &  B.  Company,  as  shown  by  vouchers  ap- 
proved by  the  engineer  of  the  appHcant;  that  the  latter  should  pay  all  the 
expenses  of  the  A.  &  B.  Company  for  engineering,  superintendence  and 
employees  used  upon  the  work;  should  pay,  in  addition,  15  per  cent  as  a 

"  Matter  of  application  of  the  Manhattan  and  Queens  Traction  Corporation,  S 
P.S.C.R.  1st  Dist.  N.  Y.  57.    Order  entered  February  5, 1914.    See  page  66. 
"  See  middle  page  80,  3  P.S.C.R.  1st.  Dist.  N.  Y. 


30  CAPITAL  CONTROL  IN  NEW  YORK 

clear  profit  to  the  A.  &  B.  Co;  and  should  make  such  payments  in  notes 
providing  for  the  public  or  private  sale  of  bonds  held  as  collateral. 

The  A.  &  B.  Company  could  (according  to  this  contract)  sell  M00,000 
of  bonds  now  in  the  treasury  of  the  applicant  at  70;  could  sell  subsequent 
issues  for  "a  fair  market  value";  was  to  receive  5  per  cent  commission 
of  the  first  two  items  of  securities;  could  sublet  this  contract  in  whole  or 
in  part,  and  the  amount  paid  to  the  sub-contractor  under  this  sub-con- 
tract should  be  taken  as  cost  upon  which  the  15  per  cent  profit  to  the 
A.  &  B.  Company  was  to  be  computed.  Here  we  have  the  interior  "  con- 
struction company"  in  all  its  glory,  and  with  numerous  faciHties  for  in- 
jecting "water"  into  the  proposed  capitalization.  In  the  words  of  the 
Commission,  "  the  construction  contract  does  not  adequately  protect  the 
interests  of  the  Longacre  Company  or  of  the  pubHc.  "^^ 

The  company  later  agreed  to  so  alter  this  construction  contract  as  to 
remove  the  most  objectionable  features.  It  was  further  agreed  that  the 
construction  company  should  make  no  profit  through  the  marketing  of 
securities,  and  that  its  profit  for  doing  work  should  be  reduced  to  5  per 
cent. 

Actual  Cost  and  not  Reproduction  Cost  New  as  the 
Proper  Basis  for  Securities 

The  North  Shore  Company,  after  failing  to  impress  the  First  District 
Commission  with  the  vaUdity  of  their  original  "construction  company" 
claims,  as  discussed  previously,  sought  to  have  the  question  approached 
upon  the  basis  of  "reproduction-new-less-depreciation,"  referring  to 
cases  in  which  this  basis  had  been  used.  The  Commission  pointed  out 
that  in  such  cases  that  basis  was  used  as  one  factor,  but  not  as  the  only 
factor,  and  that  it  was  used  as  one  factor  only  as  an  emergency  in  cases 
where  the  actual  cost  of  the  existing  property  was  not  known. 

In  the  present  case,  the  appHcant's  "actual  cost"  already  included 
^38,000  for  engineering  and  superintendence,  ^40,000  for  obtaining 
franchises,  and  upon  the  basis  suggested  the  Commission  was  asked  to 
proceed  to  add  percentages  to  cover  these  very  items  now  included.  The 
Commission  held  that "  actual  cost  as  shown  by  actual  vouchers  should  be 
the  basis  of  action  in  this  case,  subject  naturally  to  any  evidence  that  may 
throw  doubt  upon  the  propriety  of  any  item  or  that  may  indicate  the  omis- 

^  Matter  of  application  of  the  Longacre  Electric  Light  and  Power  Company.  1 
P.S.C.R.  1st  Dist.  N.  Y.  226.    Opinion  adopted  June  26, 1908. 


CAPITAL  CONTROL  IN  NEW  YORK  31 

sion  of  any  item.    Vouchers  are  not  conclusive  against  all  other  evidence, 
but  they  are  not  to  be  cast  aside  without  reason.  "^^ 

Similarly,  in  another  case,  the  First  District  Commission  held  that 

in  no  case  has  the  Commission  undertaken  to  substitute  an  estimate  for  actual  cost, 
and  it  has  been  repeatedly  stated  that  resort  has  been  had  to  estimates  only  when 
there  were  no  records.  In  no  instance,  when  a  new  company  was  being  formed  such 
as  in  the  present  case,  has  the  Commission  allowed  securities  to  be  issued  and  charges 
made  to  capital  account  on  the  basis  of  an  estimate  of  what  might  be  the  cost.  The 
Commission  has  held  that  securities  should  be  issued  upon  the  basis  of  actual  cost,  im- 
less  there  was  evidence  of  inflation  or  the  payments  appeared  to  be  imreasonable  or 
unnecessary.^ 

Again  in  the  same  opinion,  the  Commission  held  that  "all  payments 
and  charges  to  capital  should  not  be  made  on  the  basis  of  what  might  be 
paid  a  contractor  under  other  circmnstances  and  under  other  conditions, 
but  on  the  basis  of  actual  and  necessary  net  cost.  "^* 

As  a  result  of  its  investigation  the  Commission  reached  a  total  of 
^1,600,000  total  construction  cost,  as  compared  with  the  32,272,000 
originally  apphed  for,  a  reduction  of  ^672,000  or  practically  30  per  cent. 

New  York  Commissions  Not  Obliged  to  Consider  Applied^ 
tions  for  Securities  as  a  Whole 

In  the  opinion  handed  down  by  the  Appellate  Division  of  the  Su- 
preme Court  upon  the  decision  of  the  First  District  Commission  denying 
the  appHcation  of^*  the  Longacre  Electric  Light  and  Power  Company  for 
leave  to  issue  securities,  the  Court  held  as  follows: 

**  The  Appellate  Division  of  the  Supreme  Court  of  New  York  in  its  decision  upon 
the  opinion  of  the  First  District  Commission,  which  opinion  denied  the  appUcation 
of  the  Longacre  Company,  held  that  the  Commission,  in  objecting  to  the  appUcant's 
contract  with  the  construction  company,  showed  a  tendency  to  do  precisely  what  the 
Coiut  of  Appeals  had  said  that  they  were  not  authorized  to  do,  viz.:  "to  substitute 
their  judgment  for  that  of  the  board  of  directors  or  stockholders  of  the  corporation  as 
to  the  wisdom  of  a  transaction."  See  People  ex  rel.  Longacre  Electric  Light  and 
Power  Company  v.  PubUc  Service  Commission.  137  App.  Div.  810.  Decided  April 
22,  1910.  See  also  People  ex  rel.  Delaware  and  Hudson  Company  v.  Stevens,  197 
N.  Y.  1.    Decided  December  7, 1909. 

23  See  3  P.S.C.R.  1st  Dist.  N.  Y.  page  83. 

**  See  matter  of  application  of  the  Manhattan  and  Queens  Traction  Corporation. 
5  P.S.C.R.  1st  Dist.  N.  Y.  pages  71  and  75.    Order  entered  February  5, 1914. 

The  following  is  a  list  of  important  cases  in  which  it  was  held  that  securities 
shoiJd  be  issued  upon  the  basis  of  actual  cost: 

^  People  ex  rel.  Longacre  Electric  Light  and  Power  Company  v.  Public  Service 
Commission.  137  App.  Div.  810.    Decided  April  22, 1910. 


32  CAPITAL  CONTROL  IN  NEW  YORK 

the  Commission  when  application  is  made  to  it  to  approve  of  an  issue  of  securities, 
is  not  obliged  to  consent  or  refuse  consent  to  the  whole  apphcation  as  presented,  but 
may  authorize  the  issue  of  such  securities  as  it  deems  to  be  reasonably  required  for  the 
enimierated  purposes  of  the  corporation,  and  refuse  its  consent  to  the  remainder  of  the 
issue  desired  to  be  made. 

Matter  of  apphcation  of  Rochester  Corning  Elmira  Traction  Company,  1  P.S.C.R. 
2nd  Dist.  N.Y.  166.     Decided  March  30, 1908. 

Matter  of  application  of  the  Interborough  Rapid  Transit  Company,  1  P.S.C.R. 
1st  Dist.  N.  Y.  149.    Opinion  adopted  April  23,  1908. 

Matter  of  apphcation  of  the  Manhattan  Railway  Company,  1  P.S.C.R.  1st  Dist. 
N.  Y.  205.    Order  adopted  June  12, 1908. 

Matter  of  apphcation  of  the  King's  County  Lighting  Company,  1  P.S.C.R.  1st 
Dist.  N.  Y.  700.    Opinion  adopted  July  2, 1909. 

Matter  of  apphcation  of  the  Nassau  Electric  Railroad  Company  2  P.S.C.R.  1st 
Dist.  N.  Y.  124.    Opinion  adopted  September  30, 1909. 

Matter  of  application  of  the  Coney  Island  and  Brooklyn  Railroad  Company,  2 
P.S.C.R.  1st  Dist.  N.  Y.  130,  336.  Opinion  adopted  October  22,  1909.  Opinion 
adopted  July  29, 1910. 

Matter  of  application  of  Bronx  Gas  and  Electric  Company,  2  P.S.C.R.  1st  Dist. 
N.  Y.  150,  476.  Opinion  adopted  November  12,  1909.  Opinion  adopted  December 
30,  1910. 

Matter  of  application  of  King's  County  Electric  Light  and  Power  Company,  2 
P.S.C.R.  1st  Dist.  N.  Y.  193.    Opinion  adopted  January  24, 1910. 

Matter  of  apphcation  of  the  New  York  Edison  Company.  2  P.S.C.R.  1st  Dist. 
N.  Y.  276.    Opinion  adopted  March  22, 1910. 

Matter  of  application  of  Coney  Island  and  Brooklyn  Railroad  Company,2  P.S.C.R. 
1st  Dist.  N.  Y.  481,  783,  Opinion  adopted  December  30,  1910.  Opinion  adopted 
December  30, 1911. 

Matter  of  apphcation  of  the  Longacre  Electric  Light  and  Power  Company.  2 
P.S.C.R.  1st  Dist.  N.  Y.  593.    Opinion  adopted  July  28, 1911. 

Matter  of  apphcation  of  the  Third  Avenue  Bridge  Company.  2  P.S.C.R.  1st  Dist. 
N.  Y.  779.    Opinion  adopted  December  30, 1911. 

Matter  of  apphcation  of  the  Third  Avenue  Bridge  Company.  3  P.S.C.R.  1st  Dist. 
N.  Y.  209.    Opmion  adopted  March  8, 1912. 

Matter  of  application  of  the  New  York  Railways  Company.  3  P.S.C.R.  1st  Dist. 
N.  Y.  397.    Opmion  adopted  November  1, 1912. 

Matter  of  apphcation  of  the  King's  County  Electric  Light  and  Power  Company. 
3  P.S.C.R.  1st  Dist.  N.  Y.  473.    Opinion  adopted  December  17, 1912. 

Matter  of  apphcation  of  New  York  Dock  Railway.  4  P.S.C.R.  1st  Dist.  N.  Y. 
94.    Opinion  adopted  March  28, 1913. 

Matter  of  apphcation  of  Bronx  Gas  and  Electric  Company,  4  P.S.C.R.  1st  Dist. 
N.  Y.  199.    Opinion  adopted.    April  29, 1913. 

Matter  of  application  of  the  Belt  Line  Railway  Corporation,  4  P.S.C.R.  1st  Dist. 
N.  Y.  41 1 .    Opinion  adopted  November  7 ,  1913. 

Matter  of  apphcation  of  the  New  York  Connecting  Railway  Company,  4  P.S.C.R. 
1st  Dist.  N.  Y .  456.    Opinion  adopted  November  14, 1913. 


CAPITAL  CONTROL  IN  NEW  YORK  33 

The  Longacre  Electric  Light  and  Power  Company  applied  in  April, 
1908,  for  authority  to  issue  ^10,000,000  of  preferred  stock  and  also  to 
issue  bonds  to  be  secured  by  a  mortgage  upon  its  property.  The  ap- 
plication was  denied,  principally  on  the  ground  that  no  certificate  to 
begin  construction  had  been  obtained  from  the  Public  Service  Commis- 
sion, or  from  the  preceding  Commission  of  Gas  and  Electricity.^®  The 
applicant  had  been  incorporated  prior  to  the  taking  effect  of  the  Gas 
and  Electricity  Commission  Act  in  1905,  but  had  issued  no  securities 
prior  thereto.  It  had  done  so  subsequently  without  obtaining  permis- 
sion from  said  Commission.  The  act  in  question  forbade  any  increase 
in  capitalization  without  such  permission.  The  doubt  arose  as  to 
whether  an  initial  issue  was  an  "increase, "  but  in  the  minds  of  the  Com- 
mission, the  doubt  was  sufficient  to  affect  the  legaUty  of  such  issues,  as 
it  was  proposed  to  substitute  a  part  of  the  proposed  new  issues  for 
those  outstanding.  This  would  clearly  not  be  within  the  terms  of  the 
PubUc  Service  Commissions  Law,  which  was  based  upon  the  principle 
that  capitalization  issued  under  its  provisions  should  represent  fuU 
value. 

Of  the  outstanding  securities,  ^500,000  had  been  issued  to  private 
parties  in  payment  for  the  franchise.  If  a  like  amount  of  new  securities 
were  substituted  for  these,  the  effect  would  be  the  capitalization  of  a 
franchise,  and  this  is  expressly  forbidden  by  the  Public  Service  Com- 
missions Law.^' 

The  new  issue  of  ^10,000,000  perferred  stock  was  to  be  non-voting. 
The  existing  stock  amounted  to  500  shares  of  ^100  each,  and  tmder  such 
an  arrangement  a  bare  majority  of  the  outstanding  stock,  251  shares 
(^25,100)  would  place  in  the  hands  of  its  owners  complete  control  of  a 
capitalization  aggregating  ^60,000,000.  Of  the  existing  stock,  490  shares 
were  in  the  hands  of  one  corporation,  the  Manhattan  Transit  Company, 
which  had  not  paid  any  money  for  them.  Such  control,  or,  at  least,  the 
possibility  of  it,  the  Commission  held,  would  be  inimical  to  both  the 
investing  and  the  consuming  pubUc. 

*•  Matter  of  application  of  the  Longacre  Electric  Light  and  Power  Company  1st 
Dist.  N.  Y.  226.    Opinion  adopted  June  26, 1908. 

"  In  the  matter  of  the  appUcation  of  the  East  River  Terminal  Railroad  Com- 
pany (1  P.S.C.R.  1st  Dist.  N.  Y.  306.  Opinion  adopted  October  13,  1908)  the  cor- 
poration applied  simultaneously  for  a  Certificate  of  Public  Convenience  and  Necessity 
and  for  authority  to  issue  capital  stock  to  the  amoimt  of  $10,000.  It  was  held  by  the 
First  District  Commission  that  an  application  for  approval  of  the  issue  of  stock  or 
bonds  must  await  the  procuring  of  a  Certificate  of  Convenience  and  Necessity. 


34  CAPITAL  CONTROL  IN  NEW  YORK 

The  Supreme  Court,  in  the  decision'^^  referred  to  in  the  preceding 
pages,  after  discussing  the  legahty  of  the  outstanding  bonds,  apphed  the 
reasoning  quoted  above  to  the  objections  stated  by  the  Commission  in 
its  opinion  denying  the  appHcation.  The  Court  held  that  as  the  bonds 
in  question  formed  but  a  fraction  of  the  proposed  issue,  the  Commission 
could  refuse  to  authorize  an  issue  to  take  up  the  bonds  whose  legahty 
was  questioned.  The  same  considerations  were  also  applied  by  the 
Court  to  the  objection  in  regard  to  the  capitalization  of  a  franchise,  as 
this,  it  was  held,  would  afifect  only  the  question  of  the  amount  of  the 
issue,  and  not  the  question  whether  there  should  be  any  issue  at  all. 
The  same  answer  was  made  to  the  objection  that  the  amount  of  bonds 
was  too  large  in  comparison  with  the  voting  stock.^^ 

^^  Upon  this  point  the  PubHc  Service  Commissions  Law,  (Chapter  480,  Laws  of 
1910)  section  69,  holds  as  follows:  "The  Commission  shall  have  no  power  to  authorize 
the  capitalization  of  any  franchise  to  be  a  corporation  or  to  authorize  the  capitalization 
of  any  franchise  or  the  right  to  own,  operate  or  enjoy  any  franchise  whatsoever  in  ex- 
cess of  the  amount  (exclusive  of  any  tax  or  annual  charge)  actually  paid  to  the  State 
or  to  any  political  subdivision  thereof  as  the  consideration  for  the  grant  of  such  fran 
chise  or  right. "  In  this  connection  the  reader  is  also  referred  to  the  application  of  the 
Kings  County  Electric  Light  and  Power  Company,  (Matter  of  application  of  the  Kings 
Coimty  Electric  Light  and  Power  Company.  2  P.S.C.R.  1st  Dist.  N.Y.  193.  Opinion 
adopted  January  24,  1910).  An  investigation  of  the  applicant's  balance-sheet  showed 
$405,000  to  be  invested  in  stock,  bonds  and  coupons  of  the  Amsterdam  Company,  of 
which  no  portion  had  been  written  off.  These  securities,  it  was  pointed  out,  repre- 
sented practically  no  property  except  a  franchise,  and  had  earned  no  income  for  twelve 
years.  The  applicant  was  not  operating  under  this  franchise  and  its  only  present  value 
arose  from  the  fact  that  ownership  of  it  prevented  others  from  using  it,  thereby  cutting 
off  competition  from  such  a  source.  It  was  held  that  this  was  an  intangible  which 
ought  not  to  have  been  capitalized  or  at  least,  should  not  continue  to  be  capitalized. 
The  Commission  held  that  "if  such  capitalization  were  justifiable,  the  capitalization  of 
the  refusal  of  the  State  or  the  city  or  this  Commission  to  allow  a  competing  company 
to  come  in  would  be  equally  justifiable,"  and  that  "in  our  opinion,  this  amount  of 
$405,000  should  be  written  off  at  once,  or  at  least  $110,000,  the  remainder  being  amor- 
tized or  accumulated  in  a  sinking  fimd  so  that  this  amount  of  capitalization  will  be 
wiped  out  when  the  bonds  become  due." 

'^  People  ex  rel.  Longacre  Electric  Light  and  Power  Company  v.  Public  Service 
Commission.  137  App.  Div.  810.    Decided  April  22, 1910. 


CHAPTER  IV 

Ratio  of  Stock  to  Bonds 

Assuming  that  a  Commission  has  arrived  at  an  approximate  deter- 
mination of  the  amomit  of  capital  which  it  should  permit  for  a  proposed 
enterprise,  the  problem  then  arises  as  to  how  the  securities  representing 
this  capitalization  should  be  divided  between  stock  and  bonds. 

Of  course,  when  an  approximate  determination  of  the  amount  of 
capitalization  to  be  permitted  has  been  arrived  at,  the  fixing  of  the  pro- 
portion of  bonds,  or  of  stock,  automatically  fixes  the  amount  of  the 
other.  As  to  which  class  of  security,  stock  or  bonds,  should  be  given 
primary  consideration,  it  would  seem  that  under  any  program  of  pubhc 
regulation  of  the  security  issues  of  pubhc  utility  corporations  the  fun- 
damental requisite  would  be  a  reasonable  certainty  that  interest  upon 
bond  issues  could  be  regularly  and  promptly  met.  If  this  could  not  be 
done,  the  enterprise  would  mean  losses  to  investors,  and  little  usefulness 
to  consumers.  In  the  Rochester  Corning  case,  referred  to  above,  the 
Second  District  Commission  held  that  a  bond  issue  should  have  behind 
it  a  sufficient  margin  of  money  invested  by  stockholders  to  prove  that 
"in  the  judgment  of  competent  business  men  it  (the  project)  is  hkely  to 
prove  commercially  successful. " 

It  might  be  pointed  out  here  that  the  restriction  of  highly  speculative 
enterprises  with  doubtful  chances  of  success  through  insistence  by  Com- 
missions upon  a  reasonable  proportion  of  stock  to  bonds  is  supplementary 
to  a  Commission's  power  in  the  regulation  of  rates. 

Stockholders  in  ordinary  corporations  not  under  public  regulation 
are,  of  course,  not  entitled  to  the  protection  that  should  be  afforded  to 
bondholders,  since,  in  theory,  there  is  no  limit  to  their  rate  of  return  in 
cases  of  large  financial  success.  There  seem,  however,  to  be  two  reasons 
why  they  should  receive  more  protection  in  the  case  of  public  utihty 
companies  under  regulation. 

In  the  first  place,  the  theory  of  public  regulation  is  to  allow  such  a 
corporation  to  charge  rates  that  will  net  them  a  fair  return  and  no  more. 
The  Supreme  Court  in  the  Consolidated  Gas  case  held  that  six  per  cent 
was  fair,  and  eight  per  cent  has  been  held  fair  in  other  cases  decided  by 
state  commissions.  However,  if  the  pubhc,  through  its  regulating  body, 
is  to  set  a  limit  to  the  return  to  stockholders  of  a  financially  successful 
enterprise,  it  should  see  that  the  safety  of  the  investment  is  increased 
accordingly. 


36  CAPITAL  CONTROL  IN  NEW  YORK 

In  the  second  place,  while  the  amount  of  money  put  up  by  stock- 
holders is  theoretically  a  guaranty  by  competent  men  of  their  faith  in  the 
financial  success  of  the  enterprise,  it  may  represent,  in  practice,  simply  the 
faith  of  shrewd  men  in  their  abiUty  to  dispose  of  the  stock  to  investors. 
In  such  cases,  even  though  such  a  Commission  may  disclaim  responsi- 
bility for  the  future  of  the  stock,  its  mere  act  in  granting  approval  will  of 
itself  serve  as  an  added  inducement  to  the  purchase  of  stock  and  may  be 
used  as  an  effective  argument  for  its  sale. 

The  minimum  requirements  of  any  proposal  which  would  attract  the 
attention  of  experienced  men  would  seem  to  be  assurance  of  an  ability 
to  pay  operating  expenses,  taxes,  and  adequate  provision  for  deprecia- 
tion, and  still  leave  a  surplus  adequate  at  least  for  the  payment  of 
fixed  charges,  if  not  for  dividends. 

Preceding  upon  this  basis,  the  Second  District  Commission  followed 
what  might  be  called  "laboratory  methods"  in  seeking  to  arrive  at  the 
probable  gross  revenues,  the  probable  operating  expenses,  taxes  and 
depreciation  charges,  and  the  probable  remainder  applicable  to  fixed 
charges,  in  the  case  of  the  proposed  Rochester  Corning  road.^ 

Taking  advantage  of  its  command  of  statistical  data  concerning  the 
operation  of  trolley  roads  within  the  state,  the  Commission  tabulated  the 
chief  facts  with  regard  to  some  thirty-nine  similar  roads  in  actual  opera- 
tion under  the  jurisdiction  of  the  Commission.  This  information  it 
applied  to  the  proposed  project.  As  a  result,  it  was  estimated  that  the 
gross  earnings  of  the  proposed  road  would  not  be  greater  than  ^6,000  per 
mile,  or  for  the  120  miles  proposed,  ^720,000  per  year.  It  was  likewise 
estimated  that  upon  such  a  road,  operating  expenses  and  taxes  would 
not  be  less  than  65  per  cent  of  gross  earnings,  with  5  per  cent  additional 
for  depreciation,  making  70  per  cent  in  all,  thus  leaving  30  per  cent  for 
payment  of  fixed  charges.  Thirty  per  cent  of  ^720,000  would  be  ^2 16,000 
which,  at  5  per  cent  would  warrant  a  bond  issue  of  not  more  than 
^4,320,000. 

The  Commission,  through  its  engineers,  made  a  careful  examination 
of  all  the  items  in  the  estimate  of  proposed  construction  submitted  by  the 
appUcant  and  arrived  at  what  it  believed  to  be  a  generous  allowance  for 
construction  cost.  This  estimate  totalled  the  sum  of  $6,328,715.  To 
this  there  were  added  the  following  items;  for  unforseen  contingencies, 
5  per  cent,  $316,435;  for  legal  expenses,  organization  tax,  tax  upon  stock 

1  Matter  of  application  of  the  Rochester  Coming  Elmira  Traction  Company.  1 
P.S.C.R.  1st  Dist.  N.  Y.  166.    Decided  March  30, 1908. 


CAPITAL  CONTROL  IN  NEW  YORK  37 

to  be  issued,  expense  of  proceeding  before  the  Commission,  expense  of 
marketing  securities,  engineering  and  other  details,  5  per  cent,  $316,435; 
for  working  capital,  $100,000;  for  promoter's  services,  5  per  cent, 
$316,435.  This  made  a  total  of  $7,378,020.  These  percentages,  the 
Commission  stated,  were  based  upon  the  circumstances  of  the  individual 
case,  and  were  not  to  be  considered  as  precedents  for  subsequent  cases. 

The  total  capitahzation  asked  for,  including  the  ^120,000  of  stock 
already  issued,  amounted  to  ^11,276,013.  The  estimated  actual  cost, 
as  given  above,  was  ^7,378,020,  leaving  ^3,897,993  of  capitahzation 
which  did  not  seem  to  be  justified.  Taking  the  estimated  cost 
(^7,378,020)  as  the  amount  of  capitahzation  reasonably  required,  and 
subtracting  from  it  the  ^4,000,000  of  capital  stock  applied  for,  there  was 
left  ^3,378,020  to  be  met  by  the  issue  of  bonds,  and  that  amount  was 
authorized. 

The  Commission  felt  that  the  bonds  should  not  be  sold  for  less  than 
85,  and  so  ordered.  This  price  for  a  5  per  cent  bond  would  yield  5.9  per 
cent.  An  additional  allowance  was  made  for  5  per  cent  interest  for  one 
year  to  be  paid  from  the  proceeds  of  the  securities.  In  explanation 
of  this  it  might  be  stated  that  bond  interest  during  the  construction 
period  is  very  generally  allowed  as  a  capital  charge  with  the  restriction 
that  the  bonds  are  not  to  be  sold  until  the  proceeds  are  actually  needed. 
The  construction  period  is  supposed  to  end  when  actual  operation  begins. 
The  selling  price  of  85,  plus  interest  for  one  year  brought  the  proposed 
bond-issue  to  a  total  of  approximately  ^4,210,000.  The  interest  charges 
upon  this  would  be  ^212,000,  as  against  the  ^2 16,000  assumed  above  to 
be  applicable  to  fixed  charges. 

The  Commission  based  its  assumptions  upon  gross  earnings  of 
^6,000  per  mile.  If  earnings  were  not  in  excess  of  this  amount  stock- 
holders would  receive  no  returns.  The  success  in  forwarding  the  enter- 
prise would  depend  upon  the  possibihties  of  the  road  as  an  inducement 
to  investment  in  the  capital  stock,  but  bonds  should  not  be  permitted 
to  be  issued,  the  Commission  held,  beyond  an  amount  upon  which 
interest  could  be  assured.  In  other  words,  the  bondholders  take  a 
limited  return,  and  are  supposed  to  be  compensated  by  an  assurance  of 
practical  safety  of  principal  and  the  regular  payment  of  such  return,  while 
the  stockholder  is  in  the  position  of  the  man  who  puts  up  collateral 
security  with  his  broker  for  the  protection  of  the  latter,  and  as  tangible 
proof  of  his  faith  in,  or,  at  least,  of  his  willingness  to  speculate  upon  the 
outcome.  In  the  present  case,  the  proposed  amounts  of  bonds  and  stock 
were  about  equal.    The  Commission,  in  addition  to  hmiting  the  amount 


38  CAPITAL  CONTROL  IN  NEW  YORK 

of  bonds  as  above  outlined,  made  the  requirement  that  the  ^,000,000 
of  stock  must  be  subscribed  before  any  bonds  were  issued.  This  arrange- 
ment would  afiford  a  reasonable  margin  of  safety  for  prospective  bond- 
holders and  at  least  a  moral  guarantee  that  in  the  judgment  of  stock- 
holders the  enterprise  would  be  financially  successful. 

In  the  New  York  and  Ontario  Power  Company  case,  referred  to  upon 
page  20,  the  Second  District  Commission  authorized  ^1,850,000  of 
bonds  and  3640,000  of  stock,  or  a  ratio  of  three  to  one  as  compared  with 
half  and  half  in  the  Rochester  Corning  case.  No  reasons  were  given  and 
we  infer  that  the  Commission  acted  upon  consideration  of  the  individual 
circumstances  in  the  two  cases. 

In  the  North  Shore  case,^  the  First  District  Commission  held  that  if 
there  was  not  a  positive  prospect  that  the  undertaking  would  earn  a 
sufl&cient  amount  to  meet  interest  upon  bonds  promptly  after  meeting 
all  other  charges  then  such  bonds  should  not  be  issued;  if  the  future  of 
an  enterprise  was  so  uncertain  that  little  return  above  operating  expenses 
could  be  assured,  it  should  be  financed  by  stock  and  the  risk  put  upon 
stockholders.    The  Commission  took  the  position  that: 

the  existence  of  a  corporation  ought  not  to  be  constantly  jeopardized  by  the  fear 
of  foreclosiire  due  to  failure  to  earn  in  any  quarter  or  half-year  the  interest  ou  bonds. 
Under  such  circumstances  the  manager  will  be  tempted  to  neglect  maintenance,  to 
omit  provision  for  depreciation  and  ultimate  replacement  of  worn-out  equipment  and 
plant,  and  to  skimp  the  service  rendered  to  the  public. 

It  is  well  to  emphasize  as  often  as  possible  the  absurdity  of  allowing 
such  a  large  bond  issue  as  to  tempt  or  force  the  management  to  neglect 
depreciation  reserves  in  order  to  meet  current  interest  on  the  bonds  and 
keep  the  property  out  of  receiver's  hands.  Bond  interest  paid  at  the 
sacrifice  of  depreciation  reserves  is  a  cheating  proposition  for  the  security 
holders.  Such  a  procedure  first  eats  into  the  equity  of  the  stockholders, 
and,  eventually,  into  that  of  the  bondholders  themselves.  The  effect, 
in  a  case  where  the  investment  of  stockholders  was  insignificant,  would 
soon  result  in  paying  interest  to  the  bondholders  out  of  their  own  princi- 
pal. The  average  investor  does  not  fully  realize  the  results  of  neglected 
depreciation. 

After  thorough  investigation  the  Commission  decided  to  permit 
51,600,000  of  securities  instead  of  the  32,272,000  originally  apphed  for. 
The  sum  of  31,600,000  was  based  upon  the  Commission's  estimate  of 
the  actual  value  of  the  property. 

•  3  P.S.C.R.  1st  Dist.  N.  Y.  63.    For  quotation  which  follows  see  bottom  page  74. 


CAPITAL  CONTROL  IN  NEW  YORK  39 

Bonds  to  the  amount  of  ^1,500,000  had  been  asked  for  to  be  sold  at  a 
15  per  cent  discount,  netting  ^1,275,000.  To  issue  ^1,500,000  of  bonds 
upon  property  worth  ^1,600,000  would  seem  improper  on  general  princi- 
ples, but  in  this  case  the  net  earnings  had  not  in  any  year  been  enough 
to  meet  the  interest  charges  which  such  an  issue  would  entail,  namely, 
375,000.  Further,  during  these  years  no  allowances  had  been  made  for 
depreciation,  or  amortization  of  discounts.  The  estimate  for  the  current 
year,  showing  some  380,000,  was  based  upon  a  hoped-for  50  per  cent 
increase  in  revenue,  and  allowed  insufl&cient  amounts  for  depreciation 
and  amortization.  In  view  of  these  circumstances  such  a  large  bond 
issue  would  place  the  company  in  a  precarious  condition  and  under 
constant  threat  of  foreclosure.  In  this  connection  the  Commission 
held  that: 

The  principle  that  should  be  applied,  held,  is  clearly  that  the  charges  for 
interest  and  amorti^tion  of  discounts  upon  the  bonds  authorized  should  not  exceed 
the  amount  that  will  certainly  be  earned  promptly  and  regularly,  after  deducting  all 
charges,  including  reserves  for  depreciation,  etc.  It  is  quite  customaryf  ro  bond 
houses  of  standing  to  go  further  and  require  a  considerable  margin  of  safety.' 

It  seemed  that,  if  proper  depreciation  and  amortization  were  to  be 
allowed,  the  sum  apphcable  to  bond  interest  would  not  exceed  350,000 
and  would  probably  fall  below.  Upon  this  basis  it  was  felt  that  an 
issue  of  bonds  in  excess  of  3800,000  would  not  be  warranted.  Of  these, 
3350,000  were  to  be  used  to  retire  a  like  amoimt  of  outstanding  bonds, 
leaving  34^0,000  to  be  issued  to  represent  in  part  the  lines  recently  com- 
pleted. Assuming  that  these  bonds  had  been  issued  on  a  basis  of  85, 
they  would  represent  a  property  value  of  3297,500.  The  part  of  the 
property  upon  which  the  remainder  of  the  bonds  were  to  be  issued  had 
greater  earning  capacity  and  these  bonds  should  sell  at  90,  thus  repre- 
senting value  to  the  extent  of  3405,000,  or  a  total  represented  by  bonds 
of  3702,500.  This  subtracted  from  the  31,600,000  left  3897,500  to  be 
represented  by  an  additional  issue  of  stock  to  be  sold  at  par. 

The  same  factor  was  involved  in  the  appUcation  of  the  Longacre 
Electric  Light  and  Power  Company,*  known  as  the  Longacre  Case.  The 
Longacre  Light  and  Power  Company  applied  to  the  First  Distirct  Com- 
mission for  permission  to  issue  securities  preparatory  to  entering  the 
electric  field  in  New  York  City  in  competition  with  the  two  existing 
electric  companies,  The  New  York  Edison  Company,  and  the  United 
Electric  Light,  Heat  and  Power  Company.    The  application  was  denied 

» See  3  P.S.C.R.  1st  Dist.  N.  Y.  bottom  page  86. 

*  Matter  of  appUcation  of  the  Longacre  Light  and  Power  Company.  1  P.S.C.R. 
1st  Dist.  N.  Y.  226.    Opinion  adopted  June  26, 1908. 


40  CAPITAL  CONTROL  IN  NEW  YORK 

by  the  Commission  several  times  and  was  the  subject  of  two  court  deci- 
sions as  a  result  of  which  the  Commission  finally  decided  to  permit  the 
company  to  issue  some  securities. 

In  so  doing  the  Commission  took  the  position  that  the  securities 
should  be  issued  only  to  the  extent  necessary  to  construct  the  initial 
plant;  that,  if  securities  were  issued  whose  proceeds  were  not  to  be  used 
for  some  time,  the  applicant  would  be  paying  5  per  cent  interest  and  re- 
ceiving only  2  or  3  per  cent. 

The  minimum  amount  of  expenditure,  as  estimated  by  the  Commis- 
sion, called  for  about  $4,600,000  for  physical  property,  and  about  $900,000 
for  organization,  over-head  charges  and  floating  liabihties  which  did 
not  represent  any  physical  property.  From  $2,500,000  to  $3,000,000 
was  deemed  sufficient  for  present  needs. 

It  was  held  that  bonds  having  foreclosure  rights  should  not  be  author- 
ized to  an  amount  in  excess  of  which  interest  could  be  paid  with  certainty. 
What  then  would  be  the  net  return?  The  immensely  strong  position  of 
the  two  existing  companies  made  any  such  estimate  uncertain.  The 
amount  which  was  finally  taken  as  probable  varied  from  $200,000  to 
$300,000,  enough  to  carry  at  5  per  cent  an  issue  of  from  $4,000,000  to 
$6,000,000,  preferably  the  smaller  amount. 

"Obviously, "  it  was  stated,  "an  approval  of  this  amount  by  the  Com- 
mission does  not  carry  with  it  any  assurance  that  the  interest  will  be 
earned.  Whether  the  company  will  be  successful  depends  upon  the 
character  of  the  management. " 

If  the  bonds  were  restricted  to  the  amount  of  $4,000,000  this  would 
leave  $2,000,000  to  be  raised  by  stock.  The  capitalization  would  then  be 
divided  in  the  ratio  of  one  to  two.     The  Commission  held  that : 

This  ratio  is  much  more  liberal  than  allowed  in  many  states  and  coimtries.  In 
several  the  laws  prohibit  railroad  companies  from  incurring  debt  to  exceed  the  amount 
of  capital  stock  issued.  In  Great  Britain  the  limit  for  public-utilities  is  generally  less 
than  50  per  cent  of  the  capitalization.  France  allows  about  one  half  for  railroad 
companies.  It  is  evident  that  from  a  bondholder's  standpoint,  the  more  money 
contributed  by  the  stockholders,  the  greater  is  the  security  and  the  less  is  the  risk  of 
the  default  in  interest.^ 

The  Order  of  the  Commission  authorizing  the  issue  of  the  securities 
provided  specifically  that  the  given  ratio  of  stock  and  bonds  should  be 
maintained  in  floating  the  securities,  the  portion  of  stock  in  each  case  to 

'Matter  of  application  of  the  Longacre  Electric  Light  and  Power  Company. 
2  P.S.C.R.  1st  Dist.  N.  Y.  page  603.    Opinion  adopted  July  28, 1911. 


CAPITAL  CONTROL  IN  NEW  YORK  41 

be  subscribed  and  fully  paid  for  before  the  corresponding  allotment  of 
bonds  was  issued.® 

The  Commission  stipulated  that  the  bonds  should  sell  at  not  less  than 
90  and  accrued  interest  imless  first  offered  to  pubUc  subscription.  All 
discounts,  commissions  and  expenses  connected  with  the  issuance  of  the 
securities,  not  to  exceed  $400,000,  were  to  be  amortized  within  the  life  of 
the  bonds.  Provision  was  made  for  monthly  reports  to  the  Commission 
of  the  proceeds  of  sales  of  stock  and  bonds  and  the  disposal  of  the  same; 
also  for  a  properly  itemized  bill  for  each  expenditure  to  be  submitted 
to  and  approved  by  the  Commission. 

*The  paragraph  referred  to  read  as  follows:  "When  and  only  when  one  million 
dollars  ($1,000,000)  of  new  stock  shall  have  been  subscribed  and  full  paid  for,  two  mil- 
lion dollars  ($2,000,000)  of  the  bonds  hereby  authorized  may  be  issued;  and  when  and 
only  when  an  additional  million  dollars  ($1,000,000)  of  new  stock  shall  have  been 
subscribed  and  fully  paid  for,  making  in  all  two  milhon  dollars  of  new  stock,  two 
million  dollars  ($2,000,000)  more  of  the  bonds  hereby  authorized,  making  in  all  four 
milhon  $4,000,000  of  such  bonds,  may  be  issued. " 


CHAPTER  V 
Methods  of  Control  Over  the  Application  of  the  Proceeds 

A  very  important  phase  of  commission  approval  of  securities  consists 
in  the  measures  adopted  by  the  Commissions  to  see  that  their  recommen- 
dations are  carried  out.  A  thorough  and  continuous  supervision  by  an 
adequate  stafif  is  as  indispensible  as  the  power  of  the  Commission  to  make 
the  original  order. 

Authorization  Conditioned  Upon  Proper  Measures  for 
Amortization  and  Depreciation 

An  important  factor  in  the  Commission's  granting  of  permission  to 
issue  securities  in  the  North  Shore  case,^  was  the  conditioning  of  the 
authorization  upon  proper  measures  for  amortization  and  provision  for 
depreciation.  This  has  been  one  of  the  vital  elements  of  administrative 
regulation  of  capitalization.  Most  people  know  how  the  securities  of 
public  utihty  corporations  may  be  inflated  when  originally  issued,  but  the 
majority  do  not  reaUze  that  it  is  just  as  necessary  to  prevent  excess 
capitalization  from  creeping  in  subsequently.  This  generally  happens 
through  failure  to  provide  for  the  amortization  of  elements  which  do  not 
represent  tangible  or  permanent  capital  investment,  such  as  bond  dis- 
count, or  property  revertible  to  the  pubUc  after  a  fixed  period;  or,  through 
failure  to  set  aside  proper  reserves  for  depreciation  of  the  physical 
property,  resulting  in  a  tendency  to  finance  replacements  with  new 
capital. 

Section  Five  of  the  Order  in  this  case  imposed  such  restrictions. 
It  is  typical  and  we  quote  it  herewith  as  follows : 

Fifth.  That  in  order  to  provide  for  the  amortization  of  the  following  items: 
$97,500  for  discoimt  upon  bonds  authorized,  $342,000  for  property  which  will  revert 
to  the  City  of  New  York  at  the  end  of  the  franchise,  said  The  New  York  and  North 
Shore  Traction  Company  shall  estabhsh  and  maintain  a  cimmlative  sinking  fund,  etc. 

Originally,  in  1902,  capital  stock  to  the  amount  of  $33,000  had  been 
issued  for  organization  purposes,  securing  of  franchise,  etc.  Through  de- 
lay these  rights  had  lapsed  and  part  of  the  expenses  had  to  be  incurred 
a  second  time.  In  other  words,  a  large  part  of  the  $33,000  represented  a 
duplication  of  intangibles  and  it  was  decided  that  $18,000  of  this  amount 
should  be  amortized.    In  addition,  there  were  $5,200  of  expenses  in 

1  Matter  of  appliction  of  the  New  York  and  North  Shore  Traction  Company. 
3  P.S.C.R.  1st  Dist.  N.  Y.  205.  Opinion  adopted  March  8,  1912.  See  bottom  page 
207. 


CAPITAL  CONTROL  IN  NEW  YORK  43 

connection  with  the  floating  of  the  original  bonds,  and  a  loss  of  $6,500 
on  a  quantity  of  cable.  This  aggregated  $30,000  and  such  amount  was 
ordered  charged  to  pr  ofit  and  loss  and  amortized  at  the  rate  of  $3,000  per 
year. 

General  Restrictions  Imposed  by  the  Commissions  In 
the  Application  of  the  Proceeds 

For  the  purpose  of  securing  the  construction  of  the  Rochester  Corning 
street  railway  in  accordance  with  the  plans  and  specifications  upon  which 
the  authorization  was  made,  and  not  in  excess  of  actual  requirements,  the 
Order^  of  the  Commission  stipulated  among  other  things  that  no  bonds 
should  be  issued  or  sold  without  the  further  authorization  of  the  Commis- 
sion upon  the  sworn  report  of  the  terms  of  sale,  nor  until  the  capital 
stock  was  fully  subscribed  by  responsible  parties;  that  bonds  should  be 
issued  from  time  to  time  in  instalments  of  not  more  than  one  miUion  dol- 
lars each,  and  only  upon  the  making  and  entry  of  an  order  subsequent 
and  additional  hereto  authorizing  such  issue,  upon  proof  on  the  first  appU- 
cation  that  the  capital  stock  had  been  subscribed  by  responsible  parties, 
and  upon  each  appHcation  showing  for  what  purpose  the  proceeds  of  said 
bonds  were  to  be  used  in  the  construction  and  completion  of  the  work  for 
which  they  were  authorized  and  the  disposition  made  of  the  proceeds  of 
previous  issues  of  stocks  and  bonds;  that  no  bonds  would  be  authorized 
upon  any  such  application  which  were  required  for  the  purposes  of  a  gen- 
eral contract  or  of  special  contracts  for  the  construction  of  said  road  and 
the  furnishing  of  equipment  therefor,  if  the  aggregate  amount  to  be  paid 
under  said  contract  or  special  contracts  exceeded  the  sum  of  $7,200,000, 
nor  would  such  bonds  be  authorized  except  upon  such  appUcations  it  was 
shown  that  the  work  was  progressing  in  conformity  with  the  plans  and 
specifications  submitted  by  the  company  upon  the  appUcation.  The 
company  was  further  required  to  report  to  the  Commission  all  contracts 
and  agreements  made  in  the  construction  of  its  road  after  the  same  were 
made  so  that  supervisory  powers  might  be  exercised  over  the  proper  con- 
struction of  the  road.  If  the  capitalization  allowed  proved  insufficient,  a 
further  appHcation  could  be  made,  based  upon  a  detailed  account  of 
expenditure  of  the  proceeds  of  the  securities  already  authorized.* 

The  customary  form  of  clause  relating  to  accounts,  reports,  and  audits 
for  the  First  District  Commission  reads  as  follows : 

*  Matter  of  application  of  the  Rochester  Coming  and  Elmira  Traction  Company. 
1  P.S.C.R.  2nd  Dist.  N.  Y.  166.    Decided  March  30, 1908. 


44  CAPITAL  CONTROL  IN  NEW  YORK 

Fifth:  That  said  company  shall  keep  separate,  true  and  accurate  accounts  show- 
ing the  receipt  and  application  in  detail  of  the  proceeds  of  the  sale  oi  disposal  of  the 
(stock)  (bonds)  (notes,  etc.)  hereby  authorized  to  be  issued  and  on  or  before  the  tenth 
day  of  each  month  the  company  shall  make  verified  reports  to  the  Commission  stating 
the  sale  or  sales  of  said  (stock)  (bonds)  (notes,  etc.)  during  the  previous  month,  the 
terms  and  conditions  of  sale,  the  moneys  realized  therefrom,  and  the  use  and  applica- 
tion of  such  moneys;  and  said  accounts,  vouchers  and  records  shall  be  open  to  audit 
and  may  be  audited  from  time  to  time  by  accountants  and  examiners  designated  for 
such  purpose  by  the  Commission.' 

Elasticity  in  Orders  Governing  Expenditure  of  Proceeds 
of  Securities 
One  of  the  dilemmas  of  the  administrative  control  of  capitalization 
has  been  the  difficulty  of  providing  reasonable  elasticity  in  the  expendi- 
ture of  the  proceeds  of  securities  without  opening  the  way  to  abuse. 
Very  often  a  company  is  not  able  to  specify  in  advance  the  individual 
items  for  which  expenditure  will  be  necessary.  Besides,  changing  con- 
ditions may  call  for  a  revamping  of  original  plans.      Therefore,  control 

'  See  Rules  of  Procedure  and  Regulations,  etc.  Public  Service  Commission,  First 
District,  N.  Y. 

The  two  New  York  Commissions  have  different  problems  to  meet.  This  was  es- 
pecially true  in  the  early  years  of  their  existence.  As  mentioned  in  the  introduction, 
the  First  District  Commission  has  jurisdiction  over  Greater  New  York,  the  Second 
District  Commission  over  the  remainder  of  the  state.  Roughly  speaking,  therefore, 
the  former  had  under  it  a  small  number  of  large  corporations,  while  the  latter  had 
charge  over  a  large  number  of  relatively  small  utilities. 

Hence,  the  procedure  of  the  Second  District  Commission  has  not  lent  itself  so  well 
to  standardization  as  that  of  the  First  District,  and  the  former  Commission  has  not 
felt  that  it  was  desirable  for  it  to  set  forth  its  principles  of  procedure  as  formally  as  the 
First  District  Commission  has  done.  In  regard  to  this  phase  of  supervision,  we  quote 
from  a  letter  of  Mr.  H.  C.  Hasbrouck,  Chief  of  the  Division  of  Statistics  and  Accounts 
for  the  Second  District  Commission,  as  follows: 

"The  extent  to  which  the  Commission  goes  in  checking  up  the  expenditures  of 
proceeds  from  the  sale  of  securities  authorized  depends  upon  the  nature  of  the  case 
and  the  means  available  at  the  time  for  such  a  check.  Most  of  the  capitalization  orders 
issued  by  the  Commission  require  that  the  company  authorized  to  sell  securities  shall 
report  every  six  months  the  amount  of  securities  sold  under  the  order,  the  person  to 
whom  the  sale  was  made,  the  proceeds  realized,  the  amount  of  the  proceeds  expended 
for  purposes  specified  in  the  order,  and  a  detailed  statement  of  such  expenditures  by 
accounts.  These  reports  are  checked  by  the  Commission's  Division  of  Capitalization 
and  any  discrepancies  found  are  investigated.  Sometimes  detailed  audits  are  made 
of  the  original  records  of  the  company  as  a  further  check  upon  the  expenditures  of  pro- 
ceeds from  the  sale  of  securities,  and  examinations  by  engineers  are  occasionally  made 
in  connection  with  such  detailed  audits.  Supplemental  petitions  and  orders  are  re- 
quired when  the  applicant  desires  to  modify  the  plan  originally  proposed  of  expending 
the  proceeds  from  sales  of  securities." 


CAPITAL  CONTROL  IN  NEW  YORK  45 

conditioned  upon  the  approval  by  a  Commission  of  a  hard  and  fast  pro- 
gram of  specified  items  tends  to  leave  a  company  unduly  restricted  in  the 
matter  of  expenditure,  and  is  open  to  the  same  objection  as  the  'segregated 
budget'  used  by  some  municipalities.  Such  a  method  often  results  in 
inefficiency,  especially  with  expenditures  of  considerable  amount,  and 
may  even  prove  to  be  extravagant  by  forcing  a  company  to  make  ex- 
penditures which  subsequent  developments  would  have  led  it  to  modify. 

On  the  other  hand,  a  blanket  approval  by  a  Commission  of  the  ex- 
penditure of  a  lump  sum  opens  the  way  to  abuse,  and  may  result  in  the 
charging  to  capital  account,  to  a  greater  or  less  extent,  of  items  which  are 
not  properly  capital  expenditure.  Money  obtained  from  stock  or  bonds 
may  be  used  to  pay  operating  expenses  or  for  purposes  not  considered 
when  the  order  of  approval  was  issued.  Yet  it  is  almost  impossible  to 
predict  in  detail  what  items  of  expenditure  will  actually  be  required. 
Conditions  may  change,  and,  instead  of  purchasing  new  boilers,  a  new 
sub-station  may  be  needed  by  the  time  the  money  is  actually  available. 

The  fundamental  question,  assuming  the  financial  plan  is  worthy  of 
approval,  is  whether  a  specific  expenditure  should  be  charged  to  opera- 
tion and  paid  out  of  current  income  or  charged  to  capital  and  paid  by  the 
issuance  of  bonds  or  stock.  This  question  can  most  properly  be  decided 
after  the  expenditure  is  actually  made  and  the  voucher  presented  for  a 
Commission's  approval,* 

*Mr.  W.  J.  Henderson,  Chief  of  the  Division  of  Capitalization,  Second  District 
Commission,  states  the  general  attitude  of  that  Commission  in  this  regard  as  follows: 

"This  Division,  and,  I  think  also  the  Commission,  although  I  have  not  heard  any 
specific  enimciation  of  opinion  from  it  on  the  subject,  tends  toward  favoring  the  per- 
manent financing  which  takes  place  after  the  prosecution  of  necessary  construction 
work,  and  which  is  accomplished  through  the  medium  of  the  issuance  of  capital  securi- 
ties to  pay  off  short  term  debt  which  has  been  contracted,  and  for  the  purpose  of  reim- 
bursing the  treasury  for  income  moneys  temporarily  diverted  to  permanent  construc- 
tion uses.  While  I  have  no  figures  on  the  subject  available,  I  believe  that  the  larger 
part  of  the  securities  which  are  authorized  to  be  issued  by  this  Commission  are  author- 
ized under  these  circumstances.  This  being  the  case,  the  Commission's  Divisions,  both 
accounting  and  engineering,  have  an  opportunity  to  examine  records  and  property  after, 
rather  than  before  the  actual  performances.  These  examinations  are  made,  as  you 
know,  with  a  view  toward  not  only  the  mathematical  and  accounting  accuracy  of  the 
practices  followed  incident  to  the  expenditures  of  money  but  also  along  lines  which 
make  for  a  review  of  the  judgment  and  discretion  of  those  in  charge  of  the  enterprises. 
In  making  examinations  in  these  cases,  emphasis  is  continually  laid  upon  the  construc- 
tive side  of  the  work  and  by  advice,  suggestion  and  even  by  Commission  order  com- 
panys  are  influenced  toward  adopting  the  soimdest  and  most  equitable  practices  in 
the  conduct  of  the  various  branches  of  their  business. 


46  CAPITAL  CONTROL  IN  NEW  YORK 

Furthermore,  if  the  Commission  has  a  check  in  this  way  upon  the 
expenditures  actually  chargeable  to  capital,  every  necessary  safeguard 
against  overcapitalization  is  provided  for,  and  the  company  may  be 
allowed  greater  leeway.  Then,  too,  if  a  company  fails  to  spend  a  certain 
small  sum  for  the  specific  purpose  stated  in  its  application  and  made  a 
part  of  the  order,  but  does  spend  it  for  another  capital  purpose,  and  such 
expenditure  is  approved,  no  question  can  arise  as  to  the  legality  of  the 
act  or  as  to  the  violation  of  an  order  of  the  Commission. 

The  pith  of  the  provision  quoted  above  consists  in  the  elasticity 
provided.  The  Commission  can  approve  a  general  plan  of  expenditure 
for  improvements  and  extensions,  and  the  company  can  offer  its 
securities  for  sale  at  once  and  proceed  to  apply  them,  being  free  to  use 
its  own  discretion  in  the  matter  of  details.  The  company,  however,  is 
aware  that  the  day  of  reckoning  has  merely  been  postponed  for  the 
purpose  of  efficiency.  It  knows  that  every  item  of  outlay  will  be  sub- 
jected to  close  scrutiny  by  the  Commission  (or  its  agents)  before  it 
may  be  charged  to  capital  account,  and  that  expenditures  not  so  ap- 
proved must  be  met  from  current  income. 

To  achieve  these  desirable  results  Commissioner  Maltbie  outlined  a 
general  form  of  Order  for  the  use  of  the  First  District  Commission  and 
which  is  given  here,  as  follows: 

Clause  11  Withdrawal  of  Funds  on  Approval 

Sixth:  That  none  of  the  proceeds  of  the  aforementioned  (stocks),  (bonds),  (notes, 
etc.)  hereby  authorized  for  the  purposes  specified  in  subdivision  ...  of  paragraph 
...  of  section  ...  of  this  order,  other  than  the  receipts  on  account  of  accured  in- 
terest, shall  be  expended  by  the  said  company  for  the  purposes  specified  therein  imtil  a 
properly  itemized  bill  for  each  proposed  expenditure  shall  have  been  submitted  to  the 
Commission  by  the  company  with  the  certificate  of  one  of  its  officers  that  such  expen- 

"  Even  in  instances  where  securities  are  to  be  issued  for  the  purpose  of  defraying 
the  cost  of  contemplated  construction  the  Commission's  Divisions  inquire  carefully 
and  at  length  not  only  into  the  mathematical  accuracy  and  general  propriety  of  the 
estimates  made  to  cover  the  work  in  question  but  also  into  the  broader  question  as  to 
whether  the  proposed  construction  work  is  necessary  and  proper  in  the  pubUc  interest 
and  whether  the  work  is  to  be  economically  imdertaken.  It  is  proper  to  add  here  that 
the  opinions  formulated  by  the  Commission  as  a  result  of  the  studies  of  its  various 
Divisions  are  not  always  controlling,  in  fact  I  should  say  that  generally  the  reverse  was 
true.  There  is  no  doubt  in  my  mind,  however,  that  this  power  of  review  which  is 
placed  with  the  Commission  makes  for  substantial  economies  in  construction  and  that 
in  many  instances  constructive  criticism  which  has  been  given  by  the  Commission 
has  resulted  in  operating  and  financial  benefits  to  the  Companies  affected  and  thus  to 
the  commimities  which  they  serve. " 


CAPITAL  CONTROL  IN  NEW  YORK  47 

diture  represents  a  real  increase  in  its  fixed  capital  as  defined  in  the  accounting  rules  of 
the  Commission  and  not  a  replacement  of  any  part  of  such  fixed  capital  or  a  substitu- 
tion for  wasted  capital  or  other  loss  properly  chargeable  to  income,  and  until  such  bill 
shall  have  been  approved  by  the  Commission.' 

The  purpose  of  such  a  provision  of  course,  is  to  overcome  the  difficulty 
of  estimating  accurately  the  costs  of  construction  in  advance  without 
sacrificing  the  Commission's  control  over  expenditures.  In  practice 
the  plan  has  proved  to  be  mutually  satisfactory,  both  to  the  Commissions 
and  to  the  corporations.® 

Another  instance  of  this  elastic  arrangement  for  expenditures  occurs 
in  an  apphcation  of  the  Kings  County  Electric  Light  and  Power  Com- 
pany for  additional  capital.'' 

The  Commission  through  its  engineers  made  a  careful  examination 
into  the  requirements  of  the  company  so  far  as  concerned  this  application, 
and  there  seemed  to  be  no  question  but  that  they  would  need  for  exten- 
sions, additions  and  betterments,  properly  chargeable  to  capital,  the 
amount  of  $2,500,000. 

'  See  Rules  of  Procedure  and  Regulations,  etc.,  PubUc  Service  Commission, 
First  District,  N.  Y. 

•  One  of  the  best  instances  of  the  use  of  this  arrangement  was  in  connection  with 
the  construction  of  the  New  York  Connecting  Railroad  Company.  (Matter  of  apph- 
cation of  the  New  York  Connecting  Railroad  Company,  4  P.S.C.R.  1st  Dist.  N.  Y. 
456.  Opinion  adopted  November  14,  1913.)  See  also  matter  of  apphcation  of  the 
New  York  Railways  Company,  3  P.S.C.R.  1st  Dist.  N.  Y.  397.  Opinion  adopted 
November  1, 1912.  For  other  examples  of  elastic  arrangement,  see  also  Order  of  Feb- 
ruary 5,  1914,  authorizing  issue  of  stock  in  re  Manhattan  and  Queens  Traction 
Company  (Matter  of  application  of  the  Manhattan  and  Queens  Traction  Company  5 
P.S.C.R.  1st  Dist.  N.  Y.  57.)  Also  section  3,  condition  "second,"  page  59,  same 
reference,  for  similar  clause  relating  to  audit  of  proposed  expenditure  of  proceeds  by 
the  Conunission. 

Also  Matter  of  Apphcation  of  the  Hudson  and  Manhattan  Railroad  Company 
6  P.S.C.R.  1st  Dist.  N.  Y.  272.    Opinion  adopted  September  17, 1915. 

We  quote  from  the  opinion,  p.  276,  as  follows:  "The  Commission  has  heretofore 
requested  companies  making  expenditures  for  construction  or  improvement  work,  for 
which  later  appUcations  to  the  Commission  for  the  allowance  of  securities  may  follow, 
to  file  monthly  or  in  the  case  of  small  expenditures,  quarterly,  as  the  expenditures  are 
made,  statements  showing  same.  The  Hudson  and  Manhattan  RaUroad  Company 
has  compUed  carefuUy  and  fully  with  this  request  with  the  result  that  when  their 
apphcation  was  presented  to  the  Commission  it  was  possible  by  examination  of  the 
periodical  statements  for  the  employees  of  the  Commission  within  a  comparatively 
brief  time  to  testify  as  to  the  propriety  of  allowing  the  expenditures  for  capital  pur- 
poses." 

^  Matter  of  apphcation  of  the  Kings  County  Electric  Light  and  Power  Company^ 
2  P.S.C.R.  1st  Dist.  N.  Y.  193.    Opmion  adopted  January  24,  1910. 


48  CAPITAL  CONTROL  IN  NEW  YORK 

In  view  of  these  facts,  the  order  in  this  case  provided  that  the  company 
might  issue  debenture  bonds  for  $2,500,000,  the  proceeds  to  be  used  for 
extensions,  additions  and  betterments  to  the  physical  property.  No  de- 
tails were  stated,  but  the  Commission  reserved  the  right  of  passing  upon 
expenditures  as  made.  If  any  of  those  submitted  were  not  considered 
a  proper  capital  charge,  they  would  have  to  be  paid  out  of  current 
income.* 

A  similar  plan  was  followed  by  the  Second  District  Commission,  pur- 
suant to  an  application  by  the  Long  Island  Railroad  Company  for  per- 
mission to  issue  debentures  to  cover  proposed  expenditures  of  some  ten 
million  dollars.^ 

The  Pennsylvania  Railroad  Company  had  been  making  advances  to 
the  Long  Island  Company  for  capital  purposes.  The  Long  Island  Rail- 
road Company  also  planned  during  the  next  few  years  to  make  additional 
improvements  to  cost  over  ten  million  dollars.  This  capital  the  Penn- 
sylvania Railroad  expected  to  advance,  the  plan  being  to  fund  these 
advances  from  time  to  time  by  the  issue  of  debentures. 

The  chief  engineer  of  the  Long  Island  Company  testified  that  the  com- 
pany knew  in  a  general  way  what  the  improvements  would  cost,  but 

*  In  the  Longacre  case,  already  touched  upon,  the  company  submitted  a  statement 
of  assets  and  liabilities  showing  unfimded  debt  to  the  amount  of  $275,000.  The  origi- 
nal opinion  of  the  Commission  had  shown  that  the  "book  cost"  of  the  fixed  capital 
w^as  much  greater  than  its  present  value  and  to  what  extent  these  unfunded  liabilities 
represented  expenditures  chargeable  to  capital  was  imcertain.  About  $75,000,  for 
instance,  represented  interest  on  funded  debt,  which  was  properly  operating  expense. 
At  this  time  the  company  had  a  small  plant  and  its  earnings  were  insufiicient  to  pay 
charges  which  were  properly  operating  expenses.  The  Commission  in  this  connection 
expressed  the  view  that  "it  may  be  necessary  to  exercise  the  discretionary  power  vested 
in  the  Commission  by  the  statute  (Public  Service  Commissions  Law)  and  permit  these 
debts  to  be  paid  from  capital  fimds  temporarily.  To  safeguard  the  stock  and  bond- 
holders at  this  point,  a  provision  should  be  inserted  in  the  order  prohibiting  the  dis- 
bursement of  funds  until  an  itemized  statement  of  the  vouchers  to  be  paid  has  been 
submitted  to  and  approved  by  the  Commission.  This  plan  will  allow  sufficient  time 
for  an  examination  of  the  imfunded  liabilities  and  the  preparation  of  a  plan  for  the 
ultimate  extinction  of  non-capital  charges  from  operating  income."  A  maximum 
limit  of  $200,000  was  fixed  for  funds  to  be  used  in  this  way,  and  as  none  of  the  proceeds 
of  stock  or  bonds  could  be  disbursed  without  the  approval  of  the  Commission,  it  was 
felt  that  the  interests  of  security  holders  were  well  safeguarded.  In  the  subsequent 
order  of  March  5,  1913,  this  $200,000  was  allowed  for  the  refunding  of  obligations  and 
$400,000  for  expenses  involved  in  the  sale  of  bonds  and  to  make  up  the  discount. 
Matter  of  application  of  the  Longacre  Electric  Light  and  Power  Company,  2  P.S.C.R. 
1st  Dist.  N.  Y.  593.    Opinion  adopted  July  28,  1911. 

'  Matter  of  application  of  the  Long  Island  Railroad  Company,  2  P.S.C.R.  2nd 
Dist.  N.  Y.  275.    Decided  November  18,  1909. 


CAPITAL  CONTROL  IN  NEW  YORK  49 

that  no  detailed  estimates  could  be  made  with  accuracy  owing  to  the  fact 
that  imit  prices  might  change  during  the  progress  of  the  work,  and  that 
the  plans  when  worked  out  in  detail  might  increase  or  diminish  the  cost 
considerably.  The  Commission  felt  that  it  could  not  certify  in  advance 
that  any  particular  sum  was  reasonably  required  for  the  execution  of  the 
work,  as  the  company  claimed  that  the  cost  could  only  be  summarized 
approximately. 

To  meet  this  difficulty  the  president  of  the  Long  Island  Company  sug- 
gested as  follows: 

There  can  be  statements  submitted  from  time  to  time  showing  the  actual  expendi- 
ture, and  as  I  understand  it,  we  would  only  issue  these  debentures  at  the  end  of  the 
year;  we  could  not  issue  them  from  month  to  month  because  some  months  when  the 
Pennsylvania  advances  to  us  we  pay  back  within  the  next  month  more  than  they  have 
advanced  in  that  month.  It  is  only  in  a  short  month  and  when  our  construction 
vouchers  are  very  heavy  that  the  advances  are  larger;  and  we  have  got  to  take  at  the 
end  of  the  year  the  balancing  up  of  the  accoimts  and  figure  out  just  the  exact  cost  of 
construction  work  for  the  year.*" 

The  Second  District  Commission  agreed  to  the  plan  outlined,  which 
would  permit  the  appUcant  to  proceed  with  construction  for  a  year.  Ac- 
curate accounts  were  to  be  kept  of  the  progress  of  the  work,  and  at  the  end 
of  the  year,  upon  proper  proof,  the  Commission  would  authorize  the  issue 
of  a  proper  amount  of  debentures  to  the  Pennsylvania  Railroad  Company 
with  which  the  appUcant  proposed  to  keep  a  running  account. 

*"  See  preceeding  reference. 


CHAPTER  VI 

The  Commissions  and  the  Investor 

In  a  recent  decision  handed  down  by  the  Appellate  Division  of  the 
Supreme  Court  of  New  York  for  the  First  Department  it  was  stated  that 
the  purpose  of  the  creation  of  the  Public  Service  Commissions  was  "  to 
provide  protection  for  the  investing  and  traveling  public.  "^  The  extent 
of  this  protection  to  the  investing  pubHc  is,  however,  hazy  in  the  minds  of 
most  people.  There  are  investment  houses  that  place  a  deal  of  emphasis, 
in  a  general  way,  upon  the  fact  that  securities  have  been  approved  by  a 
PubHc  Service  Commission.  If  in  so  doing  they  aim  to  give  prospective 
investors  the  impression,  even  by  inference,  that  securities  so  approved 
are  practically  guaranteed  in  the  matter  of  return,  then  to  that  extent 
they  deceive  investors  and  misrepresent  Public  Service  Commissions. 
It  should  also  be  borne  in  mind  that  commission  approval  of  a  new  issue 
of  stock  or  bonds  does  not  validate  existing  issues  of  a  utility  corporation. 

The  Power  of  the  Commissions  to  Protect  the  Investor 
In  the  decision  of  the  Appellate  Division  of  the  Supreme  Court  of 
New  York  upon  the  Dry  Dock  case,  the  Court  refers  to  "the  settled 
policy  of  the  law  as  now  determined  by  the  Legislature  and  interpreted 
by  the  courts,"  and  states  that  under  this  policy  "the  approval  of  the 
Commission  to  the  issue  of  new  securities,  whether  it  be  for  refunding 
or  for  other  purposes,  is  notice  to  the  public  that  the  securities  so  author- 
ized by  it  represent  at  least  investments  made  by  the  company  for  capital 
account  and  not  disbursements  for  mere  temporary  purposes.  "^ 
|5ii  The  sections  of  the  Public  Service  Commissions  Law  dealing  with 
approval  of  security  issues  permitted  the  respective  classes  of  utiHty 
corporations  under  the  jurisdiction  of  the  Commissions  to  issue  securities 
for  certain  specified  purposes  with  the  written  approval  of  the  proper  com- 
mission. This  authorization  must  state  that  in  the  commission's  opinion 
the  amount  is  reasonably  required.^ 

'  People  ex  rel.  New  York  Railways  Company  et  al.  v.  Public  Service  Commission. 
181  App.  Div.  N.  Y.  338.     Decided  February  18,  1918. 

*  People  ex  rel.  Dry  Dock,  East  Broadway  and  Battery  Railroad  Company  v. 
Public  Service  Commission.     167  App.  Div.  286.    Decided  May  7,  1915. 

^  The  condition  was  stated  as  follows : 

"provided  and  not  otherwise  that  there  shall  have  been  secured  from  the  proper 
commission  an  order  authorizing  such  issue,  and  the  amount  thereof  and  stating  that 
in  the  opinion  of  the  commission  the  use  of  the  capital  to  be  secured  by  the  issue  of 


CAPITAL  CONTROL  IN  NEW  YORK  51 

Thus,  the  statute  under  which  the  Commissions  were  created  ap- 
parently gave  them  full  power  to  require  that  securities  should  not  be 
authorized  except  where  the  value  of  the  property  was  equal  to  the 
amoimt  of  the  proposed  securities.* 

such  stock,  bonds,  notes  or  other  ev^'dence  of  indebtedness  is  reasonably  required  for 
the  said  purposes  of  the  corporation,  .  .  .  ."  Laws  of  1907.  Chapter  429,  sections 
55  and  69. 

As  amended  in  1910  this  clauses  was  tightened  up  so  that  it  read: 

"provided,  and  not  otherwise,  that  there  shall  have  been  secured  from  the  proper 
commission  an  order  authorizing  such  issue,  and  the  amoimt  thereof,  and  stating  the 
purposes  to  which  the  issue  or  proceeds  thereof  are  to  be  applied,  and  that  in  the  opin- 
ion of  the  commission  the  money,  property  or  labor  to  be  procured  or  paid  for  by  the 
issue  of  such  stock,  bonds,  notes  or  other  evidence  of  indebtedness  is  or  has  been 
reasonably  required  for  the  purposes  specified  in  the  order."  (Laws  of  1910,  Chapter 
480,  same  sections  as  above.) 

The  law  further  provides  that 

"for  the  piirpose  of  enabling  it  to  determine  whether  it  should  issue  such  an 
order,  the  commission  shall  make  such  inquiry  or  investigation,  hold  such  hearings 
and  examine  such  witnesses,  books,  papers,  documents  or  contracts  as  it  may  deem  of 
importance  in  enabling  it  to  reach  a  determination"  (see  supra). 

Section  55  of  the  Stock  Corporation  Law  forbids  the  issue  of  stock  or  bonds  except 
for  money  or  labor  or  property  at  their  respective  values. 

*  In  the  decision  handed  down  in  the  Delaware  and  Hudson  case  (People  ex  rel. 
Delaware  and  Hudson  Company  V.  Stevens,  197  N.  Y.  1.  Decided  December  7,  19- 
09),  Judge  Haight  expressed  himself  as  follows: 

"  For  a  generation  or  more  the  pubUc  has  been  frequently  imposed  upon  by  the 
issues  of  stock  and  bonds  of  public  service  corporations  for  improper  purposes,  without 
actual  consideration  therefor,  by  company  officers  seeking  to  enrich  themselves  at  the 
expense  of  innocent  and  confiding  investors.  One  of  the  legislative  purposes  in  the 
enactment  of  this  statute  was  to  correct  this  evil  by  enabling  the  commission  to  prevent 
the  issue  of  such  stock  and  bonds,  if  upon  an  investigation  of  the  facts  it  is  found  that 
they  were  not  for  the  purposes  of  the  corporation  envunerated  by  the  statute  and 
reasonably  required  therefor. " 

In  the  discussion  of  the  powers  conferred  upon  the  Conmiission,  the  same  opinion 
held  further: 

'  We  do  not  think  the  legislation  alluded  to  was  designed  to  make  the  commissioners 
the  financial  managers  of  the  corporation,  or  that  it  empowered  them  to  substitute 
their  judgment  for  that  of  the  board  of  directors  or  stockholders  of  the  corporation  as 
to  the  wisdom  of  a  transaction,  but  that  it  was  designed  to  make  the  commissioners 
the  guardians  of  the  pubUc  by  enabling  them  to  prevent  the  issue  of  stock  and  bonds 
for  other  than  the  statutory  purposes;  these  purposes  we  have  already  enumerated  in 
quoting  the  statute,  the  last  being  for  the  discharge  or  lawful  refunding  of  its  obliga- 
tions. ...  It  was,  therefore,  evidently  the  legislative  intent  in  the  enactment  of 
this  provision  that  the  commissioners  should  have  supervision  over  the  issuing  of 
long-time  bonds  to  the  extent  of  determining  whether  they  were  issued  imder  and  in 


52  CAPITAL  CONTROL  IN  NEW  YORK 

The  corollary  of  this  power,  of  course,  is  the  power  of  the  Commis- 
sions to  supervise  the  expenditure  of  the  proceeds  through  their  engineer- 
ing and  accounting  staffs,  to  the  end  that  the  purposes  upon  which  the 
authorization  is  conditioned  may  be  carried  out.  Such  measures  have 
been  referred  to  upon  preceding  pages. 

But  in  the  decision  of  the  Court  of  Appeals  in  the  Third  Avenue  case 
it  was  stated  that,  while  as  a  general  rule  the  Public  Service  Commissions 
Law  gave  the  Commissions  power  to  base  authorization  of  securities 
upon  the  test  that  the  value  of  the  property  should  be  equal  to  the  value 
of  the  securities  proposed,  yet  "there  may  be  exceptions  to  that  rule."^ 
One  exception  was  held  to  be  the  amount  of  securities  issuable  upon  a 
plan  of  reorganization.  The  existing  reorganization  law  gave  purchasers 
of  a  bankrupt  corporation  power  to  reorganize  upon  the  basis  of  the  old 
securities,  plus  any  sum  actually  paid  in  cash.  In  view  of  the  existing 
specific  law  dealing  with  reorganizations,  the  Court  held  that  the  general 
powers  of  the  Public  Service  Commissions  Law  did  not  give  the  Com- 
missions power  to  limit  the  amount  of  new  capitalization  to  the  value  of 
the  property.  Hence,  it  followed  that  the  Commissions  did  not  have 
power  adequately  to  protect  prospective  investors  in  the  matter  of 
securities  issuable  upon  a  plan  of  reorganization.  This  evident  defect 
in  the  law  was  remedied  by  the  "reorganization  amendment"  added  to 
the  Public  Service  Commissions  Law  in  1912.^  This  amendment  gave 
the  Commissions  power  to  base  the  amount  of  proposed  capitalization  in 
a  reorganization  case  upon  the  value  of  the  property,  and  hence,  to  pro- 
tect investors  adequately. 

Refunding  securities,  as  yet,  occupy  a  less  desirable  position  from  the 
investor's  point  of  view.  Under  the  decision  of  the  Appellate  Division  of 
the  New  York  Supreme  Court  in  the  'Dry  Dock'  case,  it  was  held 
that  the  Commissions  did  not  have  the  power  to  base  the  amount  of 
such  securities  upon  the  value  of  the  property.'^    In  this  case,  in  which 

conformity  with  the  provisions  of  the  statute  for  the  purposes  mentioned  therein,  or 
whether  they  were  issued  for  the  discharge  of  the  actual  and  not  the  fictitious  debts 
of  the  company,  or  whether  they  were  issued  for  the  refunding  of  its  actual  obhgations 
and  not  for  the  inflation  of  its  stock  or  bonds." 

^  People  ex  rel.  Third  Avenue  Railway  Company  et  al.  v.  Public  Service  Commis- 
sion, 203  N.  Y.  299.    Decided  November  21,  1911. 

«  Chapter  289.    Laws  of  1912. 

^  People  ex  rel.  Dry  Dock,  East  Broadway  and  Battery  Railroad  Company  v. 
Public  Service  Commission,  167  App.  Div.  286.  Decided  May  7,  1915.  The  highest 
judicial  tribunal  in  the  State  of  New  York  is  the  Court  of  Appeals,  and  not  the  Supreme 
Court,  which  is  subordinate  to  it. 


CAPITAL  CONTROL  IN  NEW  YORK  53 

application  was  made  for  the  approval  of  the  issue  of  new  securities  for 
refunding  purposes,  the  Commission  based  their  denial  of  the  appUca- 
tion  chiefly  upon  the  ground  that  the  value  of  the  property  involved 
was  not  equal  to  the  amount  of  the  proposed  new  seciu-ities.^  The 
Commission's  decision  was  appealed  to  the  Appellate  Division  of  the 
New  York  Supreme  Court,  which  supported  the  decision  of  the  Com  mis- 
sion in  refusing  approval  of  the  proposed  securities.  The  Court  held, 
however,  that  the  Commission  did  not  have  power  to  apply  the  test  of 
actual  value  of  the  company's  property  and  its  earning  capacity  as  a 
criterion  for  its  approval  of  the  proposed  securities  but  that  it — 

was  right  in  refusing  to  approve  their  issue  until  the  relator  had  proven  that  the 
securities  sought  to  be  refunded  represented  actual  investments  for  the  company's 
capital  accoimt.  Therefore,  it  seems  to  be  quite  immaterial  how  long  ago  the  original 
securities  were  issued  where  the  approval  of  the  commission  is  sought  to  a  refimding 
issue  and  proof  of  such  investments  must  still  be  given  as  a  basis  for  the  action  of  the 
commission. 

The  Court  then  set  down  as  the  considerations  which,  in  its  judgment, 
the  Commissions  were  empowered  to  use  in  a  refunding  case,  the  three 
following  tests: 

(1)  \Miether  the  proposed  issue  is  reasonably  required  for  the  refunding  purpose. 
(2)  Whether  the  expenditure  to  be  refunded  is  a  capital,  as  distinct  from  an  o{>erating 
or  income  charge.  (3)  If  the  expenditxire  to  be  refunded  is  an  operating  or  income 
charge,  whether  such  refimding  should  nevertheless  be  permitted  under  the  exception 
clause  of  the  statute  which  reads:  'Except  as  otherwise  permitted  in  the  order  in  the 
case  of  bonds.' 

Since  the  Commission's  denial  of  the  company's  application  was  sup- 
ported by  the  Supreme  Court,  the  Commission  is  prevented  by  this  legal 
technicahty  from  appealing  the  case  to  the  Court  of  Appeals.  This  is 
regrettable,  as  the  present  situation  indicates  a  loophole  in  the  Commis- 
sions' powers  to  protect  prospective  investors,  which  defect  can  be 
remedied  only  by  a  subsequent  judicial  interpretation,  or  by  an  amend- 
ment of  the  PubUc  Service  Commissions  Law  similar  to  the  "  reorganiza- 
tion amendment,"  previously  referred  to.^ 

•  Matter  of  application  of  the  Dry  Dock,  East  Broadway  and  Battery  Railroad 
Company  for  permission  to  issue  Refimding  Bonds,  5  P.S.C.R.  1st  Dist.  N.  Y.  141. 
Opinions  filed  March  3, 1914.    See  also  pages  213  and  337  for  rehearings  on  above. 

'  After  the  Appellate  Division  of  the  New  York  Supreme  Court  handed  down 
the  decision  in  the  'Dry  Dock  case'  referred  to  above  the  con^>any  again  appUed  to  the 
Commission  (First  District).  The  latter,  in  view  of  the  holding  of  the  Court,  felt 
compelled  to  authorize  more  securities  than  the  value  of  the  property  warranted.  The 
opinion  in  the  case  was  written  by  Commissioner  Hayward,  and  he  e^ressed  the  re- 


54  CAPITAL  CONTROL  IN  NEW  YORK 

The  Court  evidently  sought  to  assume  a  position  analagous  to  that 
taken  in  the  Third  Avenue  case.^"  If  so,  the  vaUdity  of  the  position  is 
not  dear.  For  in  the  case  of  securities  issued  for  refund  there  is  no  pre- 
existing specific  statute  to  conflict  with  the  general  powers  of  the  Public 
Service  Commissions  Law,  as  was  the  case  with  reorganizations. 

In  a  decision  handed  down  by  the  same  Court  on  January  18,  1918, 
and  discussed  later  on,  it  was  held  that  the  purpose  of  the  Public  Ser- 
vice Commissions  Law  was  the  protection  of  the  investing  and  travelling 
pubhc,  and  that  in  pursuance  of  this  purpose,  both  the  settled  rules  of 
statutory  interpretation  regarding  impUed  powers  necessary  to  execute 
powers  explicitly  given,  and  the  enabling  clause  contained  in  Section 
Four  of  the  Act  gave  the  Commissions  adequate  powers.^^  This  reason- 
ing could  be  applied  to  securities  for  refunding  purposes. 

In  the  decision  of  the  New  York  Supreme  Court,  Appellate  Division, 
in  the  Third  Avenue  case,  the  Court  observed,  as  mentioned  above,  that 
while  as  a  general  rule  the  Public  Service  Commissions  Law  gave  the 
Commissions  power  to  base  proposed  security  issues  upon  the  value  of 
the  property,  there  might  be  exceptions  to  the  rule.  The  Court  then 
pointed  out  that  one  such  exception  was  to  be  found  in  the  statute  itself; 
that:— 

luctance  with  which  the  Commission  acted  in  the  following  language:  (Matter  of  Ap- 
Ucation  of  the  Dry  Dock,  East  Broadway  and  Battery  Railroad  Company  to  Issue 
Bonds,  7  P.S.C.R.  1st  Dist.  N.  Y.  59.  Opinions  adopted  May  4  and  May  25,  1916. 
For  quotation,  see  page  83) : 

"One  of  the  broad  underlying  purposes  of  the  Public  Service  Commissions  Law 
was  to  insure  against  over-capitalization,  and  it  has  always  been  the  proud  boast  of 
this  Commission  that  securities  would  not  be  authorized  beyond  the  value  of  the 
property  subject  to  them,  or  imder  such  circumstances  that  it  could  not  reasonably  be 
anticipated  that  the  interest  thereon  would  be  paid.  The  decision  of  the  Appellate 
Division  however  held  that  in  the  case,  at  least,  of  refunding  securities,  the  value  of 
the  company's  property  and  its  ability  to  pay  interest  upon  the  proposed  issues  could 
not  be  considered  by  the  Commission.  Under  that  decision,  therefore,  the  purpose  of 
the  Public  Service  Commissions  Law  in  this  regard  might  very  well  be  frustrated  and 
refimding  bonds  insufficiently  secured  might  very  well  be  issued  with  the  approval 
of  this  Commission  stamped  upon  them  to  hasten  them  into  the  hands  of  the  unwary 
investor." 

^''  People  ex  rel.  Third  Avenue  Railway  Company  v.  Public  Service  Commission, 
145  App.  Div.  378.    Decided  June  9, 191 1 . 

*^  Section  4,  Chapter  48  of  the  Consolidated  Laws  of  New  York  reads  as  follows: 
"There  shall  be  a  public  service  commission  for  each  district,  and  each  commission 
shall  possess  the  powers  and  duties  hereinafter  specified,  and  also  all  powers  necessary 
or  proper  to  enable  it  to  carry  out  the  purposes  of  this  act." 


CAPITAL  CONTROL  IN  NEW  YORK  55 

in  the  case  of  the  merger  or  consolidation  of  two  or  more  corporations  it  is  pro- 
vided that  the  capital  stock  of  the  corporation  formed  by  the  merger  shoiold  not  exceed 
the  capital  stock  of  the  corporations  consolidated  and  any  additional  simi  paid  in 
in  cash.  Thus,  in  the  case  of  merger,  the  limit  of  the  amoimt  of  stock  of  a  corporation 
is  dependent,  not  on  the  value  of  its  property,  but  on  the  stock  outstanding  of  the 
constituent  corporation  prior  to  the  merger.'* 

This  is  true.  The  fact  of  the  matter  is  that  corporations  applying 
for  permission  to  consohdate  are  generally  in  a  prosperous  condition  and 
therefore  the  question  of  protecting  investors  does  not  assume  great 
importance.  In  one  case  of  consolidation  in  the  Second  District  (see 
page  221)  the  Commission  used  the  value  of  the  property  as  one  test,  but 
the  power  of  the  Conmiissions  to  base  proposed  capitalization  in  a  con- 
sohdation  case  upon  the  value  of  the  property  has  never  been  tested  in 
the  courts.  In  theory  it  is  hard  to  see  why  the  doctrine  of  "implied 
powers  "  referred  to  above  would  not  apply. 

In  view  of  the  broad  attitude  assumed  in  this  recent  decision  of  the 
Supreme  Court  of  New  York  it  may  be  pertinent  to  give  it  some  mention 
here,  although  it  has  since  been  reversed.  The  Court  pointed  out 
that  if  the  Commissions  did  not  have  power  to  compel  corporations  to 
set  aside  adequate  depreciation  funds,  then,  when  in  the  course  of  time 
it  became  necessary  to  replace  obsolescent  and  depreciated  equipment, 
no  funds  would  be  available,  as  a  result  of  which  reorganization  would 
be  necessary,  and  would  be  accompanied  "with  the  consequent  material 
impairment  of  securities."  Even  if  power  existed  to  finance  replace- 
ments by  the  issue  of  additional  securities,  the  fatal  ending  for  the  inves- 
tor would  merely  be  postponed:    The  Court  held  as  follows: 

If  the  L^slature  has  left  this  loophole  in  its  scheme  for  the  protection  of  the  secur- 
ity holders  it  has  made  a  serious  blimder.  Such  a  fate  has  befallen  too  many  of  these 
corporations  and  it  was  largely  to  prevent  just  such  catastrophies  that  this  Commission 
was  created.  The  Court  should  not  so  construe  the  powers  given  as  to  permit  the  very 
evils  which  the  Legislature  has  sought  to  remedy.  This  holding  now  made  (support- 
ing the  Commission's  power  to  compel  a  corporation  to  reserve  sufficient  depreciation 
funds)  does  not  substitute  the  judgement  of  the  Commission  for  that  of  the  Board  of 
Directors  except  so  far  as  may  be  absolutely  necessary  to  provide  for  the  maintenance  of 
the  value  of  the  securities'^  and  of  adequate  facilities  for  transportation  by  the  require- 
ment to  pay  what  is  deemed  'operating  expenses'  from  income  and  as  I  read  the  statute 
in  view  of  the  piuposes  of  its  enactment  this  authority  is  there  given. 

This  decision  of  the  Appellate  Division  of  the  New  York  Supreme 
Court  was  appealed  by  the  company  to  the  New  York  Court  of  Appeals. 

^  People  ex  rel.  New  York  Railways  Company  et  al.  v.  Public  Service  Commission. 
181  App.  Div.  N.  Y.  338.     Decided  January  18, 1918. 
"  ItaUcs  not  in  original. 


56  CAPITAL  CONTROL  IN  NEW  YORK 

The  latter  reversed  the  lower  court  and  denied  to  the  Commissions  power 
"  to  require  the  creation  of  a  reserve  fund  to  renew  the  plant  when  the 
same  shall  be  worn  out  or  become  obsolete.""  Therefore,  as  the  law 
now  stands  in  the  hght  of  the  interpretation  of  the  highest  court  in  the 
State,  if  a  corporation  does  not  choose  to  set  aside  sufficient  fimds  to 
protect  their  property  adequately  against  the  effects  of  depreciation,  and 
thus  protect  the  holders  of  their  securities,  the  Commissions  cannot  com- 
pel them  so  to  do.  To  such  an  extent  the  Comjnissions  now  lack  the 
power  to  protect  investors  against  undermining  of  their  investments. 

The  Commissions,  with  their  extensive  powers,  still  possess  means  of 
making  hard  the  way  of  the  transgressor  as  regards  the  neglect  of  depre- 
ciation, in  spite  of  the  denial  of  specific  powers  by  the  Court  of  Appeals. 
The  principle  laid  down  by  the  United  States  Supreme  Court  in  the 
Elnoxville  Water  case  still  holds,i*  and  the  corporation  which  wilfully 
neglects  provision  for  depreciation  can  expect  little  sympathy,  either 
from  commission  or  court,  in  time  of  trouble.  In  other  words,  it  is  quite 
possible  for  the  Commissions  to  build  up  an  '  unwritten  law '  with  regard 
to  the  ethics  of  setting  aside  reserves  for  depreciation. 

Unquestioned  powers  upon  the  part  of  the  Commissions  to  compel 
adequate  provision  for  depreciation  would,  however,  prove  to  be  a  great 
factor  in  the  promotion  of  sound  financial  management  of  public  utilities. 

To  recapitulate,  then,  the  powers  of  the  Commissions  to  protect  in- 
vestors to  the  extent  of  basing  approval  of  security  issues  upon  the  value 
of  the  property  is  now  imquestioned  in  the  case  of  original  securities, 
and  those  based  upon  a  reorganization.  In  cases  of  refunding  securities, 
this  power  has  been  denied  by  the  New  York  Supreme  Court,  Appellate 
Division,  but  has  yet  to  be  tested  before  the  Court  of  Appeals.  The 
powers  of  the  Commissions  in  this  regard  in  connection  with  cases  of 
consolidation  and  merger  have  not  as  yet  been  subjected  to  judicial  inter- 
pretation. The  Commissions  do  not  have  the  power  to  require  the  crea- 
tion of  a  reserve  fund  to  renew  the  plant  when  it  shall  be  worn  out  or  shall 
become  obsolete. 

The  Duty  of  the  Commissions  to  Protect  the  Investor 

In  the  case  of  the  application  of  the  Hudson  River  Electric  Power 
Company  for  leave  to  issue  bonds,  the  Second  District  Commission,  in 

"  People  ex  rel.  New  York  Railways  Company  et  al.  v.  Public  Sendee  Commis- 
sion, 223  N.Y.,  373.    Decided  May  14, 1918. 

"  City  of  Knoxville  v.  Knoxville  Water  Company,  212  U.  S.  1.  Decided  January 
4, 1909.     For  quotation  pertinent  to  the  above  discussion  see  page  107. 


CAPITAL  CONTROL  IN  NEW  YORK  57 

passing  upon  the  issuance  of  the  additional  capital,  included  as  one  con- 
sideration, the  following:  "Whether  there  is  any  reasonable  prospect 
of  fair  return  upon  the  investment  proposed,  to  the  end  that  securities 
having  apparent  worth  but  actually  little  or  no  value  may  not  be  issued 
with  our  sanction.  "^® 

In  commenting  upon  this  question  more  in  detail  the  Commission 
stated  its  position  as  follows: 

We  think  that  to  a  reasonable  extent  the  interest  of  the  investing  public  should  be 
considered  by  us  in  passing  upon  these  applications.  The  Commission  should  satisfy 
itself  that  in  a  general  way  the  venture  will  be  likely  to  prove  commercially  feasible, 
but  it  should  not  undertake  to  reach  and  announce  a  definite  conclusion  that  the  new 
construction  or  improvement  actually  constitutes  a  safe  or  attractive  basis  for  invest- 
ment. Commercial  enterprises  depend  for  their  success  upon  so  many  conditions 
which  cannot  be  foreseen  or  reckoned  with  in  advance  that  the  duty  of  the  Commission 
is  discharged  as  to  applications  of  this  character  when  it  has  satisfied  itself  that  the 
contemplated  purpose  is  a  fair  business  proposition." 

In  its  consideration  of  the  application  of  the  Rochester  Corning  Rail- 
way Company  for  leave  to  issue  securities,  the  Second  District  Com- 
mission, in  discussing  the  possibility  of  return  upon  the  proposed  stock 
expressed  the  opinion  that  it  did  not  devolve  upon  the  Commission  "  to 
collect  data  for  or  suggest  reasons  for  those  who  are  willing  to  invest 
their  money  in  the  capital  stock  of  this  enterprise.  They  must  judge 
upon  their  own  information  and  according  to  their  own  experience."^* 

Attention  was  called,  however,  to  section  55  of  the  Stock  Corporation 
Law,  which  forbids  the  issue  of  stock  or  bonds  except  for  money,  labor  or 
property  at  their  respective  values. 

The  position  taken  as  to  the  Commission's  responsibility  to  prospec- 
tive bondholders  was  expressed  as  follows : 

We  conceive  that  we  should  not  permit  an  issue  of  bonds  beyond  an  amount  upon 
which,  in  our  judgment,  the  enterprise  will  be  able  to  pay  interest.  While  this  Com- 
mission cannot  in  any  respect  be  responsible  any  more  morally  than  it  is  legally  for 
returns  upon  bond  issues  which  it  authorizes,  it  would  certainly  be  derelict  in  its  duty  to 
the  public  if  it  permitted  a  bond  issue  upon  which  it  was  not  fairly  reasonable  to  expect 
that  the  interest  would  be  paid  from  the  legitimate  earnings  of  the  enterprise.  It  must 
be  clearly  understood  that  in  arriving  at  conclusions  upon  so  important  and  deUcate  a 
point,  the  Commission  cannot  arrive  at  resvdts  satisfactory  to  itself  and  to  the  public 
except  upon  a  conservative  basis,  and  it  would  be  in  the  highest  degree  reprehensible 
for  the  Commission  to  permit  any  corporation  to  offer  bonds  upon  the  market  which 

*»  Matter  of  application  of  the  Hudson  River  Electric  Power  Company   for 
Permission  to  Issue  Bonds,  1  P.S.C.R.  2nd  Dist.  N.  Y.  51.    For  quotation  see  page  67. 
"  See  preceding  reference,  page  67. 
"  1  P.S.C.R.  2nd  Dist.  N.  Y.,  p.  188. 


58  CAPITAL  CONTROL  IN  NEW  YORK 

the  Commission,  in  the  exercise  of  its  best  judgment  and  with  full  command  of  all  the 
statistical  data  regarding  the  operation  of  roads  within  this  State,  did  not  feel  to  have  a 
reasonable  satisfactory  assurance  from  all  the  circumstances  of  the  case  that  the  inter- 
est would  not  be  defaulted.'* 

The  First  District  Commission,  in  the  Third  Avenue  cases,  and  in 
numerous  other  instances,  have  p  aced  great  emphasis  upon  the  principle 
that  they  should  not  authorize  the  issue  of  bonds  upon  which  the  charges 
could  not  be  met  w  th  reasonable  assurance.  In  the  case  of  stock  the 
investor  is  concerned  almost  exclusively.  In  the  case  of  bonds,  however, 
doubt  as  to  the  ability  to  meet  the  fixed  charges  involves  the  interest  of 
the  consuming  pubhc  as  well  as  of  the  investing  public,  for  such  failure 
precipitates  corporate  death  and  subsequent  reorganization.  This  al- 
ways spells  impairment  of  service  as  well  as  impairment  of  securities. 

It  must  be  clearly  understood  that  a  Commission  is  not  an  investor's 
agency.  The  most  that  any  Commission  can  do  legally,  or  should  do, 
is  to  certify,  after  proper  investigation,  that,  to  the  best  of  its  knowledge, 
such  securities  represent  actual  capital  invested,  and  that  the  project 
oJQfers  a  reasonable  prospect  of  a  fair  return  upon  the  proposed  invest- 
ment. To  go  further  than  this  would  amount  practically  to  the  under- 
writing by  the  State  of  the  uncertainties  of  business  risk  and  efficiency,  or 
otherwise,  of  management  in  each  case. 

Commission  regulation  to-day  stands  between  private  management 
and  government  ownership.  If  it  fails  government  ownership  is  inevita- 
ble, and  there  are  those  who  think  that  the  Commission  movement  re- 
ceived its  inspiration,  in  large  measure,  from  far-seeing  public  service 
corporations  who  sought  to  head  off  government  ownership,  for  a  while 
at  least. 

It  should  be  borne  in  mind,  however,  that  to  ask  the  State  to  assume 
risk  properly  belonging  in  the  domain  of  private  management  would  in- 
volve sharing  with  it  the  profits  of  a  successful  enterprise.  Private 
management  cannot  have  both  the  penny  and  the  cake,  and  the  minute 
we  ask  the  State  to  assume  business  risks,  we  have  entered  the  field  of 
government  ownership.  Cases  could  be  cited  in  which  a  Commission  had, 
after  thorough  investigation,  authorized  securities  upon  what  it  considered 
a  very  conservative  basis,  and  yet  the  corporation  was  afterwards  unable 
to  meet  the  interest  upon  its  first  mortgage  bonds.  Nevertheless,  the 
money  represented  by  the  securities  had  been  honestly  invested.  Such 
instances  do  not  reflect  upon  Commission  regulation  of  securities.  For 
instance,  an  electric  railway  may  be  built  in  a  suburban  district  which 

"  See  preceding  reference. 


CAPITAL  CONTROL  IN  NEW  YORK  59 

seems  to  offer  every  prospect  of  rapid  growth.  But  the  reason  why  people 
fancy  one  suburb  and  not  another  is  often  past  understanding,  and  a  dis- 
trict which  seems  especially  promising  may  stand  still  for  years,  or  even 
go  backward.  Commissions  have  no  clairvoyant  powers  and  such  risks 
they  were  never  intended  to  assume. 

The  Addition  of  New  to  Old  Securities 

One  of  the  results  of  a  period  of  transition  between  an  old  and  a  new 
regime  of  control  is  the  situation  brought  about  by  the  addition  of 
Commission-approved  securities  to  existing  securities  whose  vahdity 
has  not  been  passed  upon.  The  effect  is  to  reduce  all  to  an  average 
value  as  concerns  a  possible  distribution  of  assets. 

An  interesting  instance  in  point  was  involved  in  the  application  of  the 
Watertown  Light  and  Power  Company  for  the  issue  of  additional 
securities.^  The  purpose  of  the  issuance  was  the  discharge  of  certain 
lawful  obligations  incurred  in  the  making  of  improvements,  the  desir- 
ability of  which  was  not  disputed. 

The  Company  already  had  a  capitalization  of  $700,000,  which  had 
been  allowed  by  the  former  Commission  of  Gas  and  Electricity.  The 
City  of  Watertown  claimed  that  under  the  present  outstanding  securities 
of  $700,000  the  company  was  greatly  over-capitalized  and  that  before 
any  application  for  additional  securities  should  be  granted  a  careful 
valuation  of  the  property  of  the  corporation  should  be  made.  In  other 
words,  that,  notwithstanding  the  fact  that  the  propriety  of  the  additional 
capitalization,  judged  upon  its  own  merits,  was  not  questioned,  its  issu- 
ance should  nevertheless  be  conditioned  upon  the  soundness  of  the 
existing  capitalization. 

The  purpose  of  the  issue  was  to  discharge  certain  indebtedness,  but 
indirectly,  to  capitalize  certain  improvements,  and  the  situation  was  in 
reality  the  same  as  if  the  applicant  had  come  to  the  Commission  for  per- 
mission to  issue  securities  for  the  financing  of  future  improvements. 

The  position  taken  by  the  Second  District  Commission  was  that  to 
hold  up  needed  improvements  while  the  exact  condition  of  the  corpora- 
tion and  the  value  of  its  present  capitalization  was  being  determined, 
would  be  to  defeat  one  of  the  main  purposes  of  the  existence  of  the  Com- 
mission, that  is,  the  furnishing  by  a  pubUc  utiHty  of  that  adequate  ser- 
vice to  which  the  public  is  entitled.  It  was  possible,  the  Commission  felt, 
that  it  might  become  involved  in  endless  complications,  and  that  improve- 

*"  Matter  of  the  application  of  the  Watertown  Light  and  Power  Con^)any, 
1  P.S.C.R.  2nd  Dist.  N.  Y.  146.    Decided  March  10, 1908. 


60  CAPITAL  CONTROL  IN  NEW  YORK 

ments  badly  needed  for  the  efficiency  of  the  pubUc  services  might  be  held 
up  while  facts  were  ascertained,  which,  however  valuable  they  might  be 
in  themselves,  would  not  help  the  Commission  in  deciding  the  point  at 
issue,  namely,  the  propriety  of  the  additional  capitalization  asked  for  in 
the  hght  of  the  purposes  for  which  it  was  to  be  used,  and  the  necessity 
therefor.^^ 

It  was  decided  that  in  this  proceeding  no  further  inquiry  would  be 
made  into  the  subject  of  the  value  of  the  properties  of  the  Watertown 
Light  and  Power  Cmpany,  and  that  the  case  would  be  considered  as 
closed,  and  determination  (as  to  the  additional  issue  applied  for)  would 
be  made  upon  the  record  heretofore  made  (the  capitalization  of  $700,000 
allowed  by  the  former  Commission  of  Gas  and  Electricity  and  which  was 
in  dispute). 

In  the  closing  paragraph  of  its  conclusion  the  Commission  drew  atten- 
tion to  the  fact  that  the  stock  hereby  authorized  to  be  issued  "  will  neces- 
sarily find  its  value  fixed  by  consideration  of  the  value  of  that  heretofore 
issued;  with  which,  being  common  stock,  it  stands  on  a  parity  in  any 
distribution  of  the  assets  of  the  company.  As  to  the  value  of  such  former 
issued  stock  the  Commission  expresses  no  opinion,  having  no  knowledge, 
that  point  not  having  been  a  subject  of  inquiry.  "^ 

This  case  is  a  good  example  of  that  class  of  cases  in  which  an  additional 
issue  of  stock  whose  soundness  is  approved  by  a  regulative  body  is  added 
to  an  existing  capitalization  whose  soundness  is  more  or  less  doubtful. 
To  take  the  present  case  as  a  concrete  example:  this  corporation  had  an 
existing  capitalization  of  $700,000;  suppose  fifty  per  cent  is  over- 
capitaUzation;  the  PubHc  Service  Commission,  after  a  careful  invest- 
igation, allows  $200,000  additional  stock,  represented  by  one  hundred 

^  "The  past  of  a  corporation,  whether  financially  faulty  or  blameless,  should  not  of 
itself  bar  the  way  to  its  rendering  of  efficient  service  in  the  present  or  future,"  the 
Commission  held.  It  decided  unanimously  "that  the  Public  Service  Commission  will 
not  investigate  or  inquire  into  the  correctness  of  the  capitaUzation  of  the  Watertown 
Light  and  Power  Company  authorized  by  the  former  Commission  of  Gas  and  Elec- 
tricity; and,  therefore,  will  not  inquire  in  this  proceeding  into  any  alleged  over- 
capitaUzation  of  the  appHcant  existing  at  the  time  the  appUcation  was  made.  That 
the  investigation  upon  this  appUcation  for  additional  capitaUzation  wiU  be  confined  to 
the  question  whether  such  capitalization  should  be  authorized  by  reason  of  the  actual 
investment  of  money  for  the  purpose  of  the  corporation  recognized  by  law  as  a 
subject  of  capitaUzation."    See  preceding  reference  (page  155). 

«  See  page  165. 1  P.S.C.R.  2nd  Dist.  N.Y. 


CAPITAL  CONTROL  IN  NEW  YORK  61 

per  cent  of  value;  as  soon  as  the  additional  $200,000  of  one  hundred  per 
cent  stock  is  thrown  into  the  pot  with  the  existing  $700,000  of  stock  of 
fifty  per  cent  value,  both  issues  are  placed  upon  a  parity.  The  value 
of  each  share  of  the  combined  $900,000  becomes  approximately  sixty- 
one  per  cent;  the  $200,000  of  new  one  hundred  per  cent  stock  loses 
thirty-nine  per  cent  and  the  $700,000  of  existing  fifty  per  cent  stock  ganis 
eleven  per  cent. 

The  investor  in  the  new  stock  who  thinks  that  because  a  Public  Ser- 
vice Commission  has  taken  care  to  see  that  it  represents  full  value,  that 
therefore  it  will  be  worth  one  hundred  per  cent  would  find  himself  sadly 
in  error  in  any  subsequent  distribution  of  assets.  He  might  also  fare  in  a 
similar  way  in  a  subsequent  rate  case,  if  the  corporation  became  involved 
in  such  to  an  extent  that  a  valuation  of  its  property  was  necessary. 

In  this  connection  the  Second  District  Commission  stated  its  position 
to  the  following  effect: 

That  in  any  proceeding  before  the  Commission  based  upon  alleged  imreasonable- 
ness  of  rates  charged  by  the  Watertown  Light  and  Power  Company  the  Commission 
will  take  into  consideration  the  entire  capitalization  of  that  company  and  whether  it 
is  overcapitalized,  and  if  so,  to  what  extent,  in  reaching  a  final  determination  upon  the 
lawfulness  of  such  rates,  and  the  Commission  will  not  hold  itself  boimd  by  the  deter- 
mination of  the  former  Commission  of  Gas  and  Electricity,  as  to  the  amount  of  the 
capitalization  authorized  by  that  Commission.*' 

The  same  principle  would  hold  true  in  the  case  of  bonds  if  improper 
financial  management — wastefulness  or  misappropriation  of  funds,  capi- 
tahzation  of  replacements,  neglect  of  depreciation  reserves,  or  what  not — 
had  gone  so  far  as  to  wipe  out  the  equity  of  the  stockholders  and  infringe 
to  a  greater  or  less  extent  upon  the  values  underlying  the  bonds.  Such 
instances  are  rare  in  comparison,  but  have  nevertheless  happened,  the 
only  difference  being  that  the  bondholders  have  the  equity  of  the  stock- 
holders as  additional  security. 

As  said  before,  this  condition  results  from  a  period  of  transition,  and 
furthermore,  the  Commission  is  not  an  investors  agency.  The  investor 
is  aware  that  when  the  new  capitalization  is  added  to  the  old,  all  is  put 
upon  a  parity,  and  he  must  conclude  for  himself  as  to  the  actual  value 
thereof. 

»  See  1  P.S.C.R.  2nd  Dist.  N.  Y.  156. 


CHAPTER  VII 

The  Commissions  and  the  Courts 

The  general  public  have  a  feeling,  whether  well-founded  or  not,  that 
the  decisions  of  the  Commissions  are  influenced  by  fear  of  appeal  to  the 
courts.  That  is,  that  they  fear  judicial  reversal  of  their  decisions  in  those 
cases  in  which  the  courts  might  take  issue,  and  'trim  their  sails'  accord- 
ingly. There  is  no  doubt  that  where  a  marked  change  of  public  policy 
is  introduced,  as  in  the  case  of  the  enactment  of  the  Public  Service  Com- 
missions Law  in  New  York  State  in  1907  and  the  institution  of  the  power- 
ful administrative  bodies  brought  into  being  thereby,  the  courts  do  keep 
a  zealous  watch  to  see  that  such  bodies  assume  only  such  powers,  in  kind 
and  extent,  as  the  Legislature  intended  should  be  given  them,  and,  with 
their  traditional  conservatism,  the  courts  may  interpret  the  law  with 
undue  strictness.  But  to  conclude  from  this  that  the  commissions  are 
afraid  to  speak  their  own  minds,  or  that  the  courts  are  upon  the  watch 
for  a  chance  to  reverse  the  commissions,  is  unwarranted. 

All  sovereign  power,  under  our  system  of  government,  resides  in  the 
people  of  a  state,  acting  through  its  Legislature,  except  for  those  powers 
which  have  been  delegated  to  the  federal  government  through  the  Consti- 
tution of  the  United  States  and  the  amendments  thereto.  These  residual 
powers  of  the  state  legislature  are  limited  only  by  the  provisions  of  the 
state  constitution  as  interpreted  by  the  state  courts.  Hence  the  powers 
of  the  state  judiciary  with  regard  to  enactments  of  the  legislature  itself, 
are  limited  to  the  function  of  passing  upon  the  constitutionality  or  un- 
constitutionality of  the  act.  For  instance,  in  1905  the  Legislature  of  the 
State  of  New  York  passed  a  law  Umiting  the  retail  price  of  gas  in  New 
York  City  to  80  cents.  This  act  was  contested  in  the  state  courts  upon 
the  ground  that  it  results  would  be  confiscatory,  which,  if  true,  would 
render  it  unconstitutional.  This  case  was  later  carried  to  the  Federal 
courts  and  to  the  United  States  Supreme  Court  upon  the  same  grounds 
(under  the  14th  amendment). 

The  Public  Service  Commissions  are  administrative  agents  of  the 
Legislature,  and,  so  to  speak,  represent  the  Legislature  in  continuous 
action.  Their  powers,  however,  are  not  co-extensive  with  those  of  the 
Legislature,  but  are  specific  powers  delegated  to  them  by  an  act  of  the 
Legislature  and  circumscribed  by  the  terms  of  that  act.  As  compared 
with  their  functions  toward  the  acts  of  the  Legislature,  the  function  of 
the  state  courts  towards  the  ruling  of  the  Public  Service  Commissions  is 


CAPITAL  CONTROL  IN  NEW  YORK  63 

to  pass  upon  such  rulings  in  the  light  of  their  interpretation  of  the 
amount  of  its  power  which  the  Legislature  meant  to  bestow  upon  the 
Commissions,  assuming,  of  course,  that  the  courts  regard  the  act  bestow- 
ing the  powers  as  constitutional.  It  may  frequently  happen  that  the 
Legislature  in  framing  its  grant  of  power  does  not  express  itself  with 
suflEicient  clearness  to  convince  the  court.  The  Legislature  may  have 
intended  to  give  the  Commissions  powers  to  remedy  certain  abuses,  and 
the  Commissions,  in  their  desire  to  correct  such  evils,  may  feel  that  such 
powers  have  been  given,  but  if  the  language  of  the  Legislature  is  not 
sufficiently  specific  to  convince  the  courts  that  such  powers  were  intended 
to  be  granted,  then  the  courts  cannot  justly  be  accused  of  prejudice 
toward  the  Commissions.  It  may,  perhaps,  be  taken  for  granted,  in  all 
fairness,  that  there  is  a  certain  amount  of  bias  upon  the  part  of  the  Com- 
missions in  interpreting  their  powers  liberally  in  order  to  correct  abuses 
of  whose  resultant  evils  they  see  continual  evidence,  and  also  a  certain 
amount  of  bias  upon  the  part  of  the  courts  in  Hmiting  legislative  grants 
of  powers,  unless  the  intent  of  the  Legislature  is  expressed  in  unmis- 
takable terms. 

Proper  Attitude  of  the  Commissions  Toward  the  Courts 
This  leads  up  to  the  point  that  there  is  a  definite  attitude  which  the 
Commissions  should  assume  toward  the  courts,  irrespective  of  the  atti- 
tude which  the  courts  may  seem  to  assume  toward  them.  There  is  no 
reason  why  a  Commission  should  assume  the  attitude  of  being  'brow- 
beaten '  by  the  courts,  or  should  feel  that  a  reversal  of  its  opinion  by  the 
courts  is  necessarily  a  rebuke.  The  duty  of  a  Commission  is  to  do  its 
duty  as  it  sees  it,  and  if  the  courts  decide  that  it  is  not  empowered  to  per- 
form its  duty  in  that  regard,  then  the  sooner  that  fact  is  advertised  to  the 
Legislature  and  to  the  people  of  the  State,  the  sooner  can  reUef  be  afforded 
by  grant  of  the  necessary  power.  A  commission  which  will  abandon 
principle  and  dehberately  'sin  against  light'  through  fear  of  a  court 
reversal  can  never  be  of  vital  service  to  a  community.  If  a  Commission 
takes  its  position  upon  the  rock  of  sound  finance  it  can  rest  assured  of 
ultimate  justification,  for  a  public  service  commission  represents  the 
State  Legislature  itself,  and  if  it  is  prevented  from  performing  its  fun- 
damental duties  to  the  pubhc,  either  through  unwarranted  restriction  in 
the  judicial  interpretation  of  its  powers,  or  through  an  actual  defect  in 
the  powers  granted  by  a  Legislature,  it  is  doing  a  great  pubhc  service  by 
focusing  attention  upon  the  inadequacy  of  its  powers.  The  fact  is  that 
a  court  reversal  may  be  the  quickest  means  of  remedying  a  defect  in  the 


64  CAPITAL  CONTROL  IN  NEW  YORK 

law,  and  proved  to  be  so  in  the  Third  Avenue  case,^  in  which  the  reversal 
of  the  First  District  Commission's  ruHng  resulted  in  the  so-called  're- 
organization amendment'  to  the  PubHc  Service  Commissions  Law. 

In  the  opinion  rendered  by  the  Second  District  Commission  in  con- 
nection with  the  second  application  of  the  Binghamton  Light,  Heat  and 
Power  Company  for  authority  to  issue  bonds  which,  in  the  opinion  of  the 
Commission,  involved  capitalization  of  replacements.  Chairman  Stevens 
made  the  statement  that  "  if  the  Commission  .  .  .  does  not  possess  the 
power  to  curb  and  regulate  financial  methods  of  corporations  subject  to 
its  jurisdiction  which  are  a  manifest  fraud  upon  the  investing  public 
.  .  .  then  it  is  time  that  fact  is  known  to  us  and  the  world.  "^ 

As  an  expression  of  the  attitude  which  a  Public  Service  Commission 
should  assume  toward  the  courts  upon  a  vital  principle,  this  statement 
cannot  be  improved  upon. 

It  may  be  claimed  that  the  point  has  been  overdone  and  that  commis- 
sions do  not  act  against  their  better  judgment  through  fear  of  court 
reversals.  It  is  to  be  hoped  that  such  instances  are  comparatively  rare, 
but  there  was  a  Second  District  case  in  which  the  Commission,  upon  their 
own  admission,  approved  a  totally  unjustifiable  issue  of  bonds  through 
fear  of  the  courts.  The  case  is  touched  upon  briefly,  not  with  the  idea 
of  reflecting  unduly  upon  the  Second  District  Commission,  especially  in 
view  of  their  courageous  attitude  in  numerous  other  cases,  but  as  an 
instance  of  where  a  Commission  proceeded  upon  what  we  claim  to  be  a 
wrong  conception  of  what  should  be  their  attitude  toward  the  courts. 
It  would  seem  that  the  case  should  have  been  considered  in  connection 
with  the  duty  of  the  Commissions  toward  investors,  just  previously 
discussed.  We  did  not  include  it  there  because  we  regard  it  as  an 
isolated  case. 

A  small  trolley  road,  the  Hudson  River  and  Eastern  Traction  Com- 
pany, planned  extensions  much  larger  than  its  original  trackage  and 
applied  for  approval  of  a  relatively  very  large  bond  issue  for  that  pur- 
pose.' 

1  See  page  197. 

*  Matter  of  application  of  the  Binghamton  Light,  Heat  and  Power  Company  for 
rehearing.  2  P.S.C.R.  2nd  Dist.  N.  Y.  566.  Decided  August  25, 1910.  (See  top  page 
567.) 

'  Matter  of  application  of  the  Hudson  River  and  Eastern  Traction  Company  for 
authority  to  issue  stock  and  bonds,  3  P.S.C.R.  2nd  Dist.  N.  Y.  172.  Decided  Decem- 
ber 27,  1911. 


CAPITAL  CONTROL  IN  NEW  YORK  65 

Without  going  into  details,  we  may  say  that  the  appHcant  corporation 
desired  to  issue  bonds  to  the  amount  of  $850,000,  to  be  sold  at  80,  for  the 
following  purposes: 

Cost  of  completing  construction  and  equipment  of  road $621,000 

Cost  of  a  proposed  branch 25,000 

For  deficit  due  to  inability  to  pay  operating  expenses,  taxes  and  fixed  charges*       34,000 

This  made  a  total  of $680,000 

the  proceeds  of  $850,000  of  bonds  sold  at  80. 

The  first  two  items  pertained  to  new  construction,  and  involved  bonds 
to  the  amount  of  $806,000.  They  were  considered  primarily  in  connec- 
tion with  the  outstanding  capitalization  of  the  company,  and  secondarily 
in  connection  with  the  plan  to  finance  them  upon  the  proceeds  of  bonds 
alone. 

The  existing  capitalization  stood  as  follows: 
Stock  $84,000 

Bonds  75,000 

$159,000 

Of  the  stock,  $9,000  had  been  paid  in  cash,  but  an  investigation  of  the 
books  and  records  of  the  company  convinced  the  Commission  that  the 
remaining  $75,000  of  stock  was  merely  a  stock  bonus,  and  that  the 
present  capital  was  represented  by  $9,000  cash  paid  for  stock  and  the 
original  $75,000  of  bonds.  Upon  such  a  basis  there  were  to  be  issued, 
according  to  the  proposed  plan,  $806,000  of  new  bonds. 

The  Second  District  Commission,  in  considering  the  propriety  of 
permitting  the  issue  of  this  amount  of  bonds,  referred  to  the  position 
which  it  had  assumed  in  the  Rochester  Corning  case,  and  which  we  have 
discussed  previously  in  relation  to  the  proper  ratio  between  stock  and 
bonds.  This  position,  stated  briefly,  was  that  for  the  protection  of 
bondholders  enough  stock  should  be  issued  to  cover  a  reasonable  share 
of  the  cost  of  construction.    The  Rochester  Corning  appUcation  was 

*  The  part  of  the  application  which  involved  the  issue  of  bonds  to  meet  the  deficit 
was  immediately  denied.  In  the  application  of  the  Long  Island  Railroad  Company  to 
issue  debenture  bonds  for  expenses  incurred  the  Commision  held  that  indebtedness 
arising  from  temporary  operating  deficit  is  an  operating  expense  and  is  not  properly 
capitalizable.  Matter  of  Application  of  the  Long  Island  Railroad  Company  2  P.S.C.R. 
2nd  Dist.  N.  Y.  275.    Decided  November  18, 1909. 


66  CAPITAL  CONTROL  IN  NEW  YORK 

largely  a  pioneer  case,  and  about  four  years  had  elapsed  between  it  and 
the  present  case.  Referring  to  the  position  taken  then,  the  Commission 
expressed  itself  as  follows: 

To  the  opinion  thus  expressed  this  Commission  still  adheres  without  the  sUghtest 
abatement  in  any  respect,  except  that  decisions  of  the  coiu-ts  made  since  the  opinion 
was  promulgated  have  placed  in  more  than  doubt  the  power  of  the  Commission  to 
determine  whether  capitalization  should  be  by  stock  or  bonds  alone  or  a  division  of 
the  same  between  the  two,  against  an  express  determination  of  the  corporation  itself. 
If  the  Commission  clearly  and  unequivocally  possesses  the  power  which  it  then  sup- 
posed it  had,  it  would  exercise  the  same  in  this  and  every  other  case  in  accordance  with 
the  principles  above  enunciated. 

The  Commission  did  not  mention  any  specific  court  decisions  to  sub- 
stantiate its  statement  that  the  courts  had  cast "  more  than  doubt "  upon 
the  power  of  the  New  York  State  Commissions  to  fix  the  ratio  of  stock 
to  bonds  as  against  that  presented  in  the  application  of  the  corporation 
itself.  If  this  statement  of  the  Second  District  Commission  referred  to 
the  decision  rendered  by  the  court  in  the  Delaware  and  Hudson  case,  as 
it  undoubtedly  did,^  it  would  seem  to  be  in  error,  as  that  decision  related 
to  a  case  in  which  the  Second  District  Commission  had  refused  approval 
to  an  issue  of  bonds  for  the  purpose  of  refunding  short  term  notes,  the 
proceeds  of  which  had  been  used  to  acquire  property  outside  the  business 
of  the  Delaware  and  Hudson  as  a  railroad  company,  and  which  the 
Commission  regarded  as  an  unfortunate  investment.  The  Court  of 
Appeals  held  that  this  was  a  matter  wholly  within  the  discretion  of  the 
Board  of  Directors  of  the  road. 

Suppose,  for  instance,  that  a  railroad  company,  instead  of  buying 
electric  power,  saw  fit  to  erect  a  power  station  for  the  manufacture  of  its 
own  current,  and  should  finance  the  same  by  issuing  notes  to  run  for 
twelve  months  or  less.  This,  of  course,  it  could  do  without  the  consent 
of  the  Commission.  Eventually  the  corporation  would,  in  most  cases, 
come  to  the  Commission  for  permission  to  refund  these  notes  into  long 
term  securities.  In  such  case  it  would  not  lie  with  the  Commission  to 
hold  that  in  its  judgment  the  company  should  have  bought  its  power 
instead  of  erecting  a  plant  of  its  own.  In  so  doing  it  would,  in  the  light 
of  the  Delaware  and  Hudson  decision,  be  usurping  the  authority  properly 
belonging  to  the  directors.  It  could,  however,  decide  that  the  company 
should  refund  the  notes  with  stock  instead  of  bonds,  if  there  was  any 

*  People  ex  rel.  Del.  &  Hud.  Co.  vs.  Stevens,  197  N.  Y.  1.  Decided  December  7, 
1909. 


CAPITAL  CONTROL  IN  NEW  YORK  67 

doubt  as  to  the  ability  to  meet  the  interest  upon  the  bonds,  and  in  this 
respect  the  Delaware  and  Hudson  decision  would  not  be  in  point. 

The  appHcant  company  in  this  case  insisted  that  stock,  if  issued,  could 
not  be  sold,  and  that,  therefore,  the  construction  of  the  extension  was 
dependent  upon  the  issuance  of  the  full  amount  of  bonds  applied  for. 
It  would  seem  that  if  the  only  way  to  finance  the  project  was  by  a  bond 
issue  of  $806,000,  to  be  supported  by  an  outstanding  stock  issue  of 
$84,000,  of  which  $75,000  was  supposed  to  be  bonus,  it  should  not  be 
undertaken  at  all. 

The  applicant  corporation  submitted  figures  of  estimated  returns  upon 
which  it  sought  to  justify  the  proposed  bond  issue.  The  estimates  were 
based  upon  annual  gross  earnings  of  $10,425  per  mile,  while  a  study  of 
twelve  similar  railways  reporting  to  the  Commission  showed,  for  1910, 
gross  returns  per  mile  varying  from  $4,081  to  $7,564. 

If  the  proposed  new  construction  were  built  entirely  with  bond  pro- 
ceeds, as  proposed,  there  would,  of  course,  be  no  equity  in  the  property 
to  protect  the  bondholders'  lien  except  the  $9,000  cash  paid  in  upon  the 
original  stock.  The  bondholders  could  get  no  return  until  operating 
expenses,  taxes  and  depreciation  were  paid.  If  depreciation  were  neg- 
lected for  a  time  as  a  makeshift  to  enable  interest  to  be  paid  on  the  bonds, 
this  would  simply  be  undermining  the  principal  of  the  bonds,  and  a  con- 
tinuance of  such  a  practice  for  any  length  of  time  would  cause  the  bond- 
holders to  find  themselves  with  a  worn  out  property  upon  their  hands, 
and  with  no  funds  for  its  renewal. 

The  Commission  pointed  out  that  investors  as  bondholders  could  get 
no  more  than  5  per  cent  return,  with  a  prospect  of  default  in  that  return 
if  earnings  were  insufficient,  while  as  stockholders  they  would  be  entitled 
to  all  returns  above  operating  expenses,  taxes  and  depreciation,  and 
with  no  more  risk  than  they  would  have  as  bondholders.  In  other  words, 
where  bonds  constitute  such  an  overwhelming  portion  of  the  capitaliza- 
tion, their  security  is  no  greater  than  that  possessed  by  stock,  while  they 
are  still  subject  to  limitation  of  return. 

"  It  is  possible, "  said  the  Commission,  "for  every  evil  which  ordinarily 
follows  from  a' disproportion  of  bonds  and  stock  to  be  found  in  this  case. " 
Because  it  felt  that  it  was  forced  to  authorize  the  amount  of  bonds  applied 
for,  the  Commission  seemingly  tried  to  place  the  onus  upon  the  directors 
of  the  corporation.    The  opinion  held  as  follows: 

It  (the  Commission)  must  distinctly  disavow  in  this  case  any  responsibility  to 
the  purchasers  of  the  bonds  as  to  the  earning  power  of  this  road,  or  as  to  the  probabili- 
ty, or  possibiUty  even,  of  the  road's  paying  its  fixed  charges.    The  directors  must  as- 


68  CAPITAL  CONTROL  IN  NEW  YORK 

sume  the  sole  responsibility  of  putting  out  upon  the  world  these  securities  and  of 
inducing  people  who  have  not  studied  the  subject  to  invest  their  money.  People  who  do 
invest  their  money  in  these  bonds  must  make  their  own  calculations  as  to  their  worth 
and  as  to  the  probability  of  their  being  worth  the  sum  paid  for  them.  The  Commis- 
sion cannot  ndertake  in  this  case  to  act  as  guardian  for  them,  and  the  authorization 
of  these  bonds  by  the  Commission  must  not  be  understood  by  anyone  that  the  Com- 
mission considers  them  a  safe  and  prudent  investment. 

Such  a  position  seems  incompatible  with  any  theory  of  effective 
regulation.  The  Commission,  it  is  true,  is  not  supposed  to  guarantee 
investments,  either  stock  or  bonds,  even  when  issued  upon  a  reasonable 
basis,  but  in  this  case  the  bondholders  had  none  of  the  protection  which 
their  hmitation  of  return  imphes,  and  which  is  supposed  to  differentiate 
bonds  from  stock.  The  bondholders,  under  such  approval,  assumed  not 
only  the  ordinary  business  risk  incident  even  to  bonds,  but  all  the  risk, 
and,  besides,  the  success  of  the  project  was  regarded  as  very  unpromising. 
The  very  fact  that  the  chance  of  success  for  the  undertaking  was  so 
uncertain  seems  to  have  been  the  chief  reason  submitted  by  the  company 
for  the  issue  of  bonds.  It  was  stated  that  stock  could  not  be  sold.  If  the 
project  was  not  feasible  from  a  financial  point  of  view,  the  mere  fact  that 
it  was  financed  by  bonds  instead  of  stock  could  make  no  difference. 
Evidently,  the  apphcants  sought  to  take  advantage  of  the  reputation  for 
security  which  bonds  have  as  compared  with  stock,  as  a  factor  in  disposing 
of  the  proposed  securities.  We  fail  to  see  any  other  interpretation  to  a 
plea  that  bonds  should  be  permitted  because  stock  could  not  be  sold. 
The  Commission  disclaimed  responsibihty  for  inducing  "people  who  have 
not  studied  the  subject"  to  invest  their  money  in  such  bonds.  Such 
people  constitute  the  bulk  of  the  investing  pubhc,  and  probably  always 
will,  and  if  regulatory  bodies  cannot  see  to  it  that  bonds  issued  with 
their  approval  are  reasonably  safe,  one  wonders  what  the  function  of  a 
Commission  is.  Under  such  lax  regulation,  its  approval  would  act  as 
a  snare. 

While  the  Commission  felt  that  it  lacked  specific  powers  to  protect 
investors  by  refusing  to  authorize  this  issue  of  bonds,  it  endeavored  to 
accomplish  the  same  end  in  a  roundabout  way.  In  the  order  authorizing 
the  issue  there  was  inserted  a  clause  describing  the  unsatisfactory  nature 
of  the  bonds.  It  was  compulsory  upon  the  applicant  corporation  to 
have  this  clause  printed  upon  the  bonds.    No  bonds  were  ever  sold. 

Such  methods  may  be  better  than  nothing,  but  it  is  questionable 
whether  sound  progress  can  be  made  along  these  lines,  even  where  speci- 
fic powers  are  inadequate.    Of  course,  a  commission  may  let  it  be  known 


CAPITAL  CONTROL  IN  NEW  YORK  69 

that  it  strongly  favors  certain  general  policies,  and  that  corporations 
which  act  in  accordance  therewith  will  be  looked  upon  more  favorably 
than  those  which  do  not.  B  ut  if  a  commission  seeks  to  overcome  the  lack 
of  specific  powers  by  the  use  of  technicalities,  we  soon  have  what,  in 
essence,  is  petty  persecution.  In  other  words,  the  principle  is  bad,  how- 
ever meritorious  the  aim  may  be,  and  the  principle  that  the  end  justifies 
the  means  is  the  only  excuse  for  such  a  course.  It  still  seems  that  the 
soundest  course  would  be  to  focus  pubUc  attention  upon  the  defects  in 
the  law,  even  if  it  is  necessary  for  a  commission  to  run  the  risk  of  a  court 
reversal  in  so  doing. 

The  Attitude  of  the  Courts  Toward  the  Commission 
The  attitude  of  the  courts  during  the  early  years  of  the  Commissions 
was,  on  the  whole,  hostile.  The  courts  proceeded  upon  the  theory  of 
'strict  construction,'  and  this,  probably,  was  to  be  expected.  The  Dela- 
ware and  Hudson  decision  was  heralded  as  a  successful  effort  upon  the 
part  of  the  courts  to  'clip  the  wings'  of  the  Commissions,  and  was  much 
overrated  as  to  its  actual  hmitation  of  the  powers  of  the  Commissions 
because  corporation  attorneys  appearing  before  the  Commissions  used 
it  with  great  frequency,  whether  it  had  any  direct  bearing  upon  their 
case  or  not.  The  real  point  upon  which  it  was  based,  as  stated  previously, 
involved  an  investment  by  a  railroad  company  outside  its  pubUc 
service  business  and  was  not  typical  of  the  general  run  of  capitalization 
cases.  The  corporations  thought  that  it  greatly  limited  the  powers  of 
the  Commissions,  largely  because  the  wish  was  father  to  the  thought. 

The  Third  Avenue  decisions,  both  of  the  Supreme  Court  and  of  the 
Court  of  Appeals,  were  based  upon  the  technical  groimd  that  an  existing 
specific  law  is  not  repealed  by  implication  by  a  subsequent  general  law. 
The  reasoning  was  no  doubt  sound,  but  aside  from  this,  the  general  tenor 
of  the  decisions  was  extremely  hostile. 

Where  securities  are  in  question  which  have  been  issued  prior  to  the 
regime  of  the  PubHc  Service  Commissions  the  courts  have  shown  an  un- 
mistakable opposition  to  radical  action  by  the  Commissions,  even  though 
the  actual  value  underlying  the  securities  may  be  largely  fictitious.  This 
was  true  in  the  Third  Avenue  decisions  and  also  in  the  decision  of  the 
New  York  Supreme  Court,  Appellate  Division,  in  the  Dry  Dock  case, 
where  the  court  denied  the  power  of  the  Commissions  to  apply  the  test 
of  the  value  of  the  property,  although  no  existing  specific  law  was  in- 
volved, as  was  the  case  with  reorganizations. 


70  CAPITAL  CONTROL  IN  NEW  YORK 

Where  capitalization  of  replacements  has  been  concerned,  however, 
the  courts  have  shown  much  more  of  a  tendency  to  support  the  Commis- 
sion. This  was  especially  true  in  the  Binghamton  case,  where  the  Court 
of  Appeals  actually  reversed  the  Second  District  Commission  upon  the 
point  at  issue  (the  reduction  by  $100,000  of  the  capital  stock  of  the  Bing- 
hamton Company  as  a  condition  of  the  approval  of  a  bond  issue),®  but  in 
which  decision  the  'obiter  dicta'  concerning  the  unsoundness  of  capitali- 
zation of  replacements  was  so  extensive  and  so  unmistakable  in  its  tenor 
as  to  have  the  effect  of  a  supporting  decision  upon  that  question.  The 
last  few  years,  however,  have  shown  a  distinct  trend,  upon  the  part  of 
the  courts,  toward  the  theory  of  'implied  powers'  in  construing  the  powers 
of  the  Commissions,  and  a  distinct  trend,  also,  in  the  recognition  by  the 
courts  of  the  nature  of  the  PubUc  Service  Commissions  as  technical, 
expert,  administrative  bodies  whose  function  it  is  to  pass  upon  questions 
of  fact,  and  whose  judgments  in  this  field  should  not  be  subject  to  review 
except  in  so  far  as  they  may  exceed  the  powers  delegated  to  them  by  the 
Legislature.  The  courts  have  shown  much  less  of  a  tendency  to  substi- 
tute their  own  judgments  upon  these  matters  of  fact  for  those  of  the 
Commissions,  and  more  of  a  tendency  to  confine  themselves  to  the  pure 
questions  of  law  involved  in  those  cases  appealed  to  them. 

This  was  notably  so  in  the  so-called  Douglaston  case.  This  case  is 
discussed  at  some  length  on  page  243.  The  people  of  Douglaston,  a  vil- 
lage of  Long  Island,  were  supplied  with  electricity,  but  not  with  gas. 
The  supply  of  both  gas  and  electricity  in  this  district,  and  the  franchise 
for  supplying  the  same  were  controlled  by  subsidiaries  of  the  Consolida- 
ted Gas  Company  of  New  York.  The  gas  company  refused  to  supply 
gas,  upon  the  ground  that  the  investment  required  would  not  be 
self-supporting  for  some  time.  The  people  of  Douglaston  appealed 
to  the  PubUc  Service  Commission  for  the  First  District.  The  latter 
ordered  that  mains  be  laid.  It  appeared  that  the  fixed  charges  upon 
the  necessary  expenditure  would  be  about  $3,000  per  annum,  while  the 
additional  income  would  be  about  half  that  amount. 

'  In  Justice  to  the  Second  District  Commission,  attention  should  be  called  to  the 
fact  that  it  did  not  assume  power  to  force  a  corporation  to  write  off  a  portion  of  its 
capital  stock  as  a  condition  for  the  authorization  of  this  bond  issue.  The  proposition 
was  made  volimtarily  by  the  applicant  corporation,  and  accepted  by  the  Commission, 
and  the  Commission's  order  in  the  case  was  drawn  in  accordance  therewith.  The 
corporation  then  appealed  to  the  courts,  thus  leaving  the  Commission  in  the  position 
and  having  assumed  such  power,  and  this  view  was  evidently  adopted  by  the  courts. 


CAPITAL  CONTROL  IN  NEW  YORK  71 

The  company  appealed  the  Commission's  order  to  the  Appellate 
Division  of  the  Supreme  Court  for  the  First  District,  which  reversed  the 
Commission.    The  Court  ruled  that : 

the  promise  here  (of  adequate  return  upon  the  investment)  is  so  remote  that  it 
does  not  seem  to  us  reasonable  to  reqmre  this  company  to  make  this  expenditure  for 
this  construction  in  view  of  the  fact  that  the  only  requirement  for  gas  is  for  cooking 
and  heating  in  the  summer  months,  and  that  the  place  is  already  supplied  with  elec- 
tricity for  illumination.  "^ 

It  is  interesting  to  note  here  the  tendency,  referred  to  elsewhere,  for 
monopolies  in  control  of  both  gas  and  electricity  to  shift  consumers  to 
one  or  the  other  where  facilities  for  both  are  not  already  installed,  but 
it  is  surprising  that  a  court  should  uphold  such  a  doctrine. 

The  Commission  appealed  the  case  to  the  Court  of  Appeals  of  New 
York  and  were  supported.^  The  Court  of  Appeals  in  its  decision  pointed 
out  that  the  PubHc  Service  Commissions  are  authorized  by  law  **  to  order 
reasonable  improvements  and  extensions  of  the  works,  wires,  poles,  lines, 
conduits,  ducts  and  other  reasonable  devices,  apparatus  and  property  of 
gas  corporations,  electrical  corporations  and  municipalities.  "^ 

The  Court  of  Appeals  in  its  decision,  quoted  from  the  decision  of  the 
Supreme  Court,  Appellate  Division,  (N.Y.)  as  follows:  'We  have  no 
doubt  that  under  this  law  the  question  remains  for  the  court  to  determine 
upon  the  review  of  the  determination  of  the  Public  Service  Commission 
whether  the  extension  ordered  was  a  reasonable  extension. "  In  discuss- 
ing this  view  of  the  Supreme  Court,  the  Court  of  Appeals  expressed  itself 
to  the  following  effect: 

This  statement  of  the  law  is  quite  likely  to  create  a  misapprehension  as  to  the 
power  of  the  court.  The  court  has  no  power  to  substitute  its  own  judgment  of  what 
is  reasonable  in  place  of  the  determination  of  the  Public  Service  Commission,  and  it 
can  only  annul  the  order  of  the  Commission  for  the  violation  of  some  rule  of  law.^" 

Continuing,  the  court  held  that  the  Public  Service  Commissions — 

^  People  ex  rel.  New  York  and  Queens  Gas  Company  v.  Public  Service  Commis- 
sion, 171  App.  Div.  580.    Decided  March  3,  1916. 

*  People  ex  rel.  New  York  and  Queens  Gas  Company  v.  Public  Service  Commis- 
sion, 219  N.  Y.  84.     Decided  October  3, 1916. 

•  See  Consolidated  Laws.    New  York,  Chapter  48,  section  66. 

"  See  also,  Minnesota  Supreme  Court  in  States  v.  Great  Northern  Railway  Co. 
(153  N.  W.  Rep.  247),  as  follows:  "The  order  may  be  vacated  as  unreasonable  if  it 
is  contrary  to  some  provision  of  the  Federal  or  State  Constitution  or  laws,  or  if  it  is 
beyond  the  power  granted  to  the  Commission,  or  if  it  is  based  upon  some  mistake  of 
law,  or  if  there  is  no  evidence  to  support  it,  or  if,  having  regard  to  the  interests  of  both 
the  public  and  the  carrier,  it  is  so  arbitrary  as  to  the  beyond  the  exercise  of  a  reasonable 
discretion  and  judgment. " 


72  CAPITAL  CONTROL  IN  NEW  YORK 

were  created  bv  the  Legislature  to  perform  very  important  functions  in  the  com- 
munity, namely,  to  regulate  the  great  public  service  corporations  of  the  State  in  the 
conduct  of  their  business  and  compel  those  corporations  adequately  to  discharge  their 
duties  to  the  public  and  not  to  exact  therefor  excessive  charges.  It  was  assumed 
perhaps  by  the  Legislature  that  the  members  of  the  Public  Service  Commissions  would 
acquire  special  knowledge  of  the  matters  intrusted  to  them  by  experience  and  study, 
and  thus  when  the  plan  of  their  creation  was  fully  developed  they  would  prove  effi- 
cient instrumentaUties  for  dealing  with  the  complex  problems  presented  by  the  activi- 
ties of  these  great  corporations.  It  was  not  intended  that  the  courts  should  interfere 
with  the  commissions  or  review  their  determinations  further  than  is  necessary  to  keep 
them  within  the  law  and  protect  the  constitutional  rights  of  the  corporations  over 
which  they  were  given  control." 

In  conclusion,  the  Court  of  Appeals  held  that  the  Appellate  Division 
of  the  Supreme  Court  did  not  have  the  power  to  determine  that  the 
extensions  of  the  company's  gas  mains,  as  ordered  by  the  Public  Service 
Commission  was  imreasonable  in  the  sense  that  it  was  an  unwise  or  inex- 
pedient order,  but  only  that  it  was  unreasonable  if  it  was  an  unlawful, 
arbitrary,  or  capricious  exercise  of  power. 

The  Court  observed  that  if  such  a  decision  (the  decision  of  the  Appel- 
late Division  of  the  Supreme  Court)  were  allowed  to  stand,  it  would 
seriously  hamper  the  Commissions  in  the  discharge  of  their  duties  and 
would  go  far  toward  defeating  the  efforts  of  the  Legislature  to  establish 
agencies  to  regulate  the  public  service  corporations. 

This  decision  of  the  New  York  Court  of  Appeals  thus  clearly  defines 
the  functions  and  limitations,  both  of  the  Commissions,  and  of  the  courts, 
in  passing  upon  their  rulings. 

In  the  case  of  People  ex  rel.  New  York  Railways  Company  et  al.  vs. 
The  Public  Service  Commission,  the  Appellate  Division  of  the  New  York 
Court  for  the  First  District  showed  marked  tendency  to  treat  the  Com- 
missions upon  the  basis  of  'implied  powers.'^^  This  case  is  discussed  in 
full  at  page  129,  but  for  present  purposes  it  may  be  said  that  at  the  time 
of  the  organization  of  the  New  York  Railways  Company  as  a  reorganiza- 
tion of  the  old  Metropohtan  Company,  the  First  District  Commission, 

"  See  also  Interstate  Comriierce  Commission  v.  Illinois  Central  Railroad  Co.  (215 
U.  S.  452,  470.  Decided  January  10,  1910)  where  the  Chief  Judge,  after  defining  the 
power  of  the  court  said:  "It  is  equally  plain  that  such  perennial  powers  lend  no  sup- 
port whatever  to  the  proposition  that  we  may,  under  the  gviise  of  exerting  judicial 
power,  usurp  merely  administrative  functions  by  setting  aside  a  lawful  administrative 
order  upon  our  conception  as  to  whether  the  administrative  power  has  been  wisely 
exercised.  Power  to  make  the  order,  and  not  the  mere  expediency  or  wisdom  of  having 
made  it,  is  the  question. " 

'2  18  (App.  Div.  N.  Y.)  338.    Decided  January  18, 1918. 


CAPITAL  CONTROL  IN  NEW  YORK  73 

as  a  condition  of  its  approval  of  the  new  securities,  issued  an  order  under 
date  of  February  12,  1912,  requiring  the  company  to  set  aside  monthly 
20  per  cent  of  its  gross  operating  revenue  for  maintenance  and  deprecia- 
tion. The  company  protested  that  this  was  a  matter  for  the  board  of 
directors  to  decide,  but  nevertheless  continued  to  obey  the  order  as  it 
(the  company)  had  covenanted  under  its  mortgages  to  comply  with  all 
orders  of  public  authorities.  It  appealed  the  order  of  the  Commission, 
and  on  January  18, 1918,  the  Appellate  Division  handed  down  a  decision 
supporting  the  order.  The  Court  pointed  out  that  inasmuch  as  the 
record  of  the  company  showed  that  of  the  20  per  cent  set  aside,  16^^ 
had  been  necessary  for  maintenance,  thus  leaving  3}/i  per  cent  for  a 
fimd  against  the  time  when  depreciation  and  obsolescence  would  necessi- 
tate large  expenditures  for  renewals,  that  therefore,  the  order  was  not 
unreasonable.  The  company  did  not  contest  upon  this  ground,  but 
solely  upon  the  ground  that  the  setting  aside  of  such  a  fund  belonged 
within  the  jurisdiction  of  the  board  of  directors. 

Upon  this  point  the  Court  held  that  the  purpose  of  the  creation  of  the 
Public  Service  Commissions  was  the  protection  of  the  travelling  and  in- 
vesting public:  that  a  time  would  come  when  it  would  be  necessary  to 
replace  the  property  to  a  large  extent  in  order  for  the  company  to  con- 
tinue to  function  for  the  public  service;  that  the  Commissions  possessed 
no  powers  to  approve  securities  to  finance  such  renewals  (capitualization 
of  replacements)  and  that  therefore  reorganization  would  be  inevitable. 
This  would  mean  serious  impairment,  both  of  service  and  of  securities. 
If  the  Commissions  did  not  possess  the  powers  adequately  to  guard 
against  such  inevitable  consequences,  they  did  not  possess  power  to 
execute  the  purposes  of  their  creation.  These  powers,  the  Court  claimed, 
they  did  possess  upon  two  grounds,  first,  the  settled  rules  of  statutory 
interpretation  by  which  power  is  impliedly  given  to  take  such  action  as 
may  be  necessary  to  make  effective  the  powers  explicitly  given  to  ac- 
complish the  purpose  of  the  enactment;  second,  by  Section  Four  of  the 
Public  Service  Commissions  Law,  which  provided  that  "There  shall  be  a 
Public  Service  Commission  for  each  district  and  each  Commission  shall 
posess  the  powers  and  duties  hereinafter  specified  and  also  all  powers 
necessary  or  proper  to  enable  it  to  carry  out  the  purposes  of  this  act.  "^^  It 
was  further  stated  that "  The  Court  should  not  so  construe  the  powers  given 
as  to  permit  the  very  evils  which  the  Legislature  has  sought  to  remedy,  "^*  and 
in  conclusion,  that:  "This  holding  now  made  does  not  substitute  the 

"  Italics  in  the  court  opinion  but  not  in  the  act. 
"  Italics  not  in  the  court  opinion. 


74  CAPITAL  CONTROL  IN  NEW  YORK 

judgment  of  the  Commission  for  that  of  the  Board  of  directors  except 
so  far  as  may  be  absolutely  necessary  to  provide  for  the  maintenance  of 
the  value  of  the  securities  and  of  adequate  facilities  for  transportation  by 
the  requirement  to  pay  what  is  deemed  in  law  'operating  expenses'  ^® 
from  income,  and,  as  I  read  the  statute  in  view  of  the  purposes  of  its  enact- 
ment,^^ this  authority  is  there  given." 

This  is  certainly  the  recognition  of  the  theory  of  'implied  powers' 
as  applied  to  the  PubHc  Service  Commissions  and  would  seem  to  open  a 
vista  of  increased  usefulness  in  the  achievement  of  sounder  methods  of 
utility  financing. 

The  Court  added  that:  "While  the  powers  given  to  the  Commission 
have  been  in  some  cases  strictly  construed,^''  no  case  has  denied  to  the 
Commission  powers  absolutely  necessary  to  accomplish  the  purposes 
of  its  creation. " 

The  reference  to  strict  construction  may  or  may  not  be  a  tacit  admis- 
sion, but  in  the  light  of  the  rather  hostile  attitude  adopted  in  some  of 
the  earlier  cases  it  seems  significant.^* 

*^  The  courts  agree  in  regarding  proper  allowance  for  depreciation  as  'operating 
expenses.' 

^^  The  majority  opinion  was  written  by  Justice  Smith. 

"  Italics  not  in  original. 

'*  To  the  foregoing  majority  opinion  there  was  a  dissenting  opinion  by  Justice 
Scott.  This  brief  minority  opinion  illustrates  so  well  the  'strict  construction'  policy, 
especially  when  taken  in  conjunction  with  the  'broad'  construction  policy  of  the 
majority  opinion  in  this  case,  that  the  liberty  has  been  taken  of  quoting  it  in  full,  as 
follows: 

"I  am  imable  to  concur  in  the  decision  about  to  be  made  simply  because  I  cannot 
find  in  the  Statute  any  authority  for  the  order  brought  up  for  review.  I  do  not  for  the 
purposes  of  this  appeal  question  the  proposition  that  prudent  management  of  a  cor- 
poration like  the  relator  requires  that  some  part  of  its  earnings  should  be  set  aside  for 
the  establishment  of  a  fimd  to  meet  possible  future  depreciation  of  plant,  nor  do  I  ques- 
tion the  power  of  the  Legislature  to  authorize  the  Public  Service  Commission  to  deter- 
mine what  proportion  of  the  earnings  should  be  so  devoted. 

"The  difl&culty  I  find  is  that  the  Legislatiu-e  has  not  conferred  such  power.  The 
respondent  relies  on  Section  52  of  the  Public  Service  Commissions  Law,  but  that 
Section  as  I  read  it  relates  only  to  the  manner  of  keeping  the  accounts,  and  has  no 
reference  to  the  manner  in  which  the  income  share  shall  be  expended.  My  brother 
Smith  finds  authority  in  the  Commission  to  make  the  order  appealed  against,  ia  the 
broad  language  of  Section  4  of  the  Public  Service  Commission  Act  which  confers  upon 
the  Conamission  "all  powers  necessary  or  proper  to  enable  it  to  carry  out  the  purposes 
of  this  Act."  If  the  compulsory  establishment  of  a  depreciation  fund  was  one  of  the 
declared  purposes  of  the  Act,  this  clause  would  undoubtedly  authorize  the  order  sought 
to  be  reviewed.    But  the  difficulty  I  find  is  that  it  is  not  one  of  these  declared  purposes. 


CAPITAL  CONTROL  IN  NEW  YORK  75 

The  minority  opinion  of  Justice  Scott,  of  the  Appellate  Division  of  the 
Supreme  Court,  quoted  in  the  preceding  footnote,  is  of  double  interest  in 
that  it  is  the  identical  position  taken  in  the  unanimous  opinion  which  the 
New  York  Court  of  Appeals  handed  down  some  four  months  later.  ^® 
They,  too,  interpreted  the  Public  Service  Conunissions  Law  upon  the 
basis  of  'strict  construction,'  and  ruled  that  section  52  of  the  statute, 
referred  to  above,  empowered  the  commissions,  not  to  regulate  the 
management  of  a  corporation's  finances,  but  simply  to  show  what  that 
management  was.  Besides,  there  were  no  other  sections  of  the  statute, 
the  Court  held,  which  in  express  terms  authorized  the  commissions  to 
require  the  creation  of  a  depreciation  fund. 

It  was  further  held,  that  while  the  power  of  the  commissions  was  ex- 
tensive, and  should  be  so  construed,  yet  the  exercise  of  a  particular  power 
by  the  commissions  should  have  its  basis  "  in  the  language  of  the  statute 
or  should  be  necessarily  impHed  therefrom. "  The  assertion  of  author- 
ity here  under  review  was  held  to  be  "  outside  of  and  beyond  the  statute. " 

It  is  for  this  very  reason  that  such  extensive,  and  even  minute,  authority  is  given  to 
the  Commission  with  regard  to  other  matters,  that  I  am  unable  to  spell  out  implied 
authority  to  do  that  which  the  Commission  has  undertaken  to  do  here.  If  the  Legisla- 
taie  had  desired  to  invest  the  Public  Service  Commission  with  power  to  prescribe  what 
amortization  funds  should  be  taken  out  of  income,  it  could  have  done  so  very  simply 
and  in  a  few  words.  That  it  did  not  do  so,  is  suggestive  that  it  did  not  intend  to  con- 
fer such  power. " 

1*  People  ex  rel.  New  York  Railways  Company  et  al.  v.  Public  Service  Commis- 
sion, 223  N.  Y.  373.     Decided  May  14, 1918. 


PART  THREE 
ADDITIONAL  CAPITALIZATION  FOR  EXISTING  COMPANIES 

Under  Part  III  we  shall  consider  the  issues  involved  in  appUcations 
by  existing  companies  for  additional  capitalization.  The  most  impor- 
tant of  these  issues  have  been  the  proper  handling  of  replacements,  re- 
tirements of  property,  depreciation,  amortization,  equitable  selling  prices 
for  bonds  [and,  in  some  cases,  of  stock]  and  a  fair  rate  of  return  upon 
securities,  the  latter  two  subjects  being  closely  related.  Besides  these 
there  have  been  adopted  various  emergency  measures  either  to  meet 
money  market  conditions  or  weakened  credit  in  the  individual  company, 
as  the  case  may  be.  These  issues  are  involved  in  the  cases  considered 
in  the  other  chapters,  but  special  consideration  has  been  given  to  them 
here  because  they  occur  to  a  much  larger  extent  in  cases  dealing  with  ap- 
plications for  additional  capitalization. 

Part  III  has  been  divided  into  five  chapters  under  which  have  been 
discussed,  in  connection  with  cases  pertinent  thereto,  (1)  the  important 
factors  considered  in  granting  additional  capitalization;  (2)  the  selling 
prices  of  and  rate  of  return  upon  securities;  (3)  the  amortization  of  in- 
tangible elements  entering  into  capitaHzation,  (4)  depreciation  and 
replacement,  and,  (5)  finally,  a  number  of  miscellaneous  considera- 
tions which  are  of  interest  and  which  do  not  seem  to  fall  into  any  general 
category. 

CHAPTER  VIII 

General  Factors  Considered 

The  first  matter  of  additional  capitalization  to  come  before  the 
Second  District  Commission  was  an  application^  of  the  Hudson  River 
Electric  Power  Company  for  leave  to  issue  bonds  to  an  amount  of 
$3,232,000  under  a  mortgage  for  $30,000,000  executed  by  the  Company. 
The  purpose  was  the  erection  of  a  storage  and  power  dam,  electrical 
power  plant,  and  transmission  lines  in  connection  therewith. 

The  following  considerations^  the  commission  set  down  for  this 
and  similar  cases  of  application  for  leave  to  issue  additional  capital: 

*  Matter  of  Application  of  the  Hudson  River  Electric  Power  Company,  1  P.S.C.R,, 
2nd  Dist,  N.  Y.  51.    Decided  December  4, 1907. 

*  Definiteness  in  Applications  for  Securities 

In  a  case  where  an  applicant  corporation  applied  for  consent  to  the  issuance  of  a 
consolidated  mortgage  for  $1,000,000,  the  application  stated  merely  that  the  bonds 
issued  thereunder  should  run  for  not  more  than  one  hundred  years  and  that  the  rate 
of  interest  thereon  should  not  exceed  five  per  cent. 


CAPITAL  CONTROL  IN  NEW  YORK  77 

(1)  The  purpose  to  which  the  proceeds  arising  from  the  sale  of  the  securities  are 
to  be  applied. 

(2)  The  amount  reasonably  necessary  for  the  consimimation  of  such  purposes. 

(3)  The  character  of  the  securities  proposed  to  be  issued. 

(4)  Whether  any  proposed  construction  or  extension  is  likely  to  create  imhealth- 
ful  conditions  or  otherwise  constitute  a  public  nuisance,  infringe  upon  the  vested  rights 
or  impede  the  necessary  operations  of  other  public  service  corporations,  or  interfere 
with  the  flow  of  water  in  a  navigable  stream  to  the  extent  of  impairing  its  public  use. 

The  commission  held  that  these  matters  were  not  expressed  with  sufficient  definite- 
ness,  and  directed  the  applicant  to  present  its  financial  plans  in  detail,  including  a  copy 
of  the  mortgage  actually  intended  to  be  issued  and  specifying  the  niunber  of  years  for 
which  the  mortgage  was  to  run,  the  rate  of  interest  to  be  paid  on  the  bonds  provided 
for  in  such  mortgage,  and  the  price  at  which  they  were  to  be  sold.  Matter  of  Applica- 
tion of  the  Greenwich  and  Johnsonville  Railway  Company,  1  P.S.C.R.,  2nd  Dist., 
N.  Y.  90.    Decided  February  18, 1908. 

Similarly  in  an  application  of  the  Third  Avenue  Railway  Company  for  approval 
of  an  issue  of  bonds,  it  appeared  upon  the  hearing  of  the  application  that  the  specific 
purposes  for  which  the  money  obtained  by  the  issue  of  the  bonds  was  to  be  used  were 
not  shown;  that  the  amount  of  bonds  to  be  issued  and  sold  was  not  given;  and  that  it 
was  the  intention  of  the  applicant  to  finance  a  part  of  its  proposed  expenditures  (the 
purchase  of  securities  of  a  competing  railroad  company)  by  the  issue  of  notes  maturing 
not  more  than  a  year  from  date  and  that  no  bonds  would  immediately  be  issued  for 
such  purpose.  It  was  held  that  under  such  circumstances  the  application  for  the  ap- 
proval of  a  bond  issue  was  prematvure  and  could  not  be  acted  upon  without  more  speci- 
fic data.  Matter  of  Application  of  Third  Avenue  Railway  Company,  3  P.S.C.R., 
1st  Dist.,  N.  Y.,  327.    Opinion  adopted  June  28, 1912. 

Ample  Time  for  Investigation  of  Proposed  Issues  Necessary 

During  the  first  few  years  of  the  Commissions'  existence,  many  applicants  for  the 
issue  of  bonds  made  such  insistent  requests  for  speedy  action  as  to  give  the  impression 
that  they  thought  authorization  should  be  granted  immediately.  In  \'iew  of  the  intri- 
cacies of  many  of  the  cases  submitted,  the  Second  District  Commission  in  connection 
with  an  application  of  the  Delaware  and  Hudson  Railroad  Company  (1  P.S.C.R.,  2nd 
Dist.,  N.  Y.,  242.  Decided  July  7,  1908),  called  attention  to  the  fact  that  while  it 
desired  to  dispose  of  all  proceedings  as  promptly  as  possible,  yet,  if  to  facilitate  the 
financial  operations  of  applicants,  such  as  taking  advantage  of  immediate  conditions 
in  the  bond  market,  or  of  prices  of  commodities,  a  thorough  investigation  should  be 
omitted,  and  it  should  virtually  be  assumed  by  the  Commission  on  the  basis  of  a 
superficial  examination  that  the  capital  to  be  secured  was  reasonably  required,  in  so 
doing  the  Commission  would  be  acting  in  utter  disregard  of  its  prescribed  statutory 
duty. 

"It  must  be  understood"  the  Second  District  Commission  stated  in  the  above  case, 
"that  in  the  interests  of  the  stockholders  as  owners  of  the  property  sought  to  be  mort- 
gaged and  those  who  have  money  to  invest,  as  well  as  of  the  general  pubUc,  the  proposed 
issues  will  be  carefully  scrutinized  and  that  all  time  necessary  to  examination,  con- 
siderarion  and  determination  will  be  used." 


78  CAPITAL  CONTROL  IN  NEW  YORK 

(5)  Whether  there  is  reasonable  prospect  of  fair  return  upon  the  investment 
proposed,  to  the  end  that  securities  having  apparent  worth  but  actually  little  or  no 
value  may  not  be  issued  with  our  sanction.' 

In  passing  upon  the  application  the  Commission  considered: 
The  extensions  proposed  by  the  applicant  and  the  purposes  to  which  they  were  to 
be  appUed. 

The  estimate  of  cost.* 

The  general  financial  condition  of  the  applicant,  individually,  and  in  connection 
with  the  financial  situation  of  its  subsidiary  companies. 

The  important  provisions  of  the  mortgage  xmder  which  the  bonds  covered  by  the 
application  were  intended  to  be  issued.* 

The  Commission  took  the  general  position  that  in  passing  upon  the 
proposed  issue  of  bonds  imder  this  application,  no  approval  or  disapproval 
was  intended  to  be  expressed  as  to  the  remainder  of  the  bonds  covered  by 
the  mortgage;  that  if  the  issuance  of  any  portion  of  the  bonds  covered  by 
this  appMcation  was  sanctioned,  such  sanction  carried  with  it  no  implic- 
ation of  consent  upon  a  future  application  as  to  any  of  the  remaining 
bonds  embraced  in  the  mortgage,  and  that  a  determination  upon  any 
such  future  application  would  not  be  considered  as  in  any  wise  affected. 

In  connection  with  the  application^  for  a  bond  issue,  the  First  Dis- 
trict Commission,  after  a  thorough  investigation  of  the  books  and  records 
of  the  applicant  corporation,  decided  to  approve  of  an  issue  of  $625,000, 
face  value,  of  bonds  out  of  a  total  of  $740,000  apphed  for,  upon  the  fol- 
lowing grounds: 

1.  An  inventory  and  appraisal  of  the  property  of  the  company  by  the  engineers  of 
the  Commission  showed  beyond  question  that  the  present  value  of  the  physical  assets 
less  depreciation  considerably  exceeded  the  face  value  of  the  proposed  issue. 

2.  The  applicant  had  always  paid  its  interest  (the  majority  of  the  proposed  issue 
was  for  the  purpose  of  refunding  outstanding  bonds)  and  there  had  been  a  profit  every 
year  after  paying  operating  expenses,  taxes  and  fixed  charges. 

3.  The  area  of  supply  was  steadily  increasing  in  population  and  the  amount  of 
gas  and  electricity  supplied  was  growing. 

4.  The  proportion  of  current  sold  for  street  lighting  as  compared  with  private 
lighting  was  decreasing,  which  was  a  favorable  sign. 

'  See  application  of  Hudson  River  Electric  Power  Company.  1  P.S.C.R.,  2nd 
Dist.,N.Y.,page67. 

*In  view  of  certain  deductions  arrived  at  in  the  Commission's  investigation, 
$3,000,000  was  considered  sufl&cient  instead  of  the  $3,232,000  asked  for. 

'  See  Application  of  Hudson  River  Electric  Power  Company,  supra,  page  66. 

•  Matter  of  the  Application  of  the  Bronx  Gas  and  Electric  Company,  2  P.S.C.R., 
1st  Dist.,  N.Y.,  150.     Opinion  adopted  November  12,  1909. 


CHAPTER  IX 
Selling  Prices  of  Securities  and  Rate  of  Return 

The  Commissions  of  New  York  state  have,  in  the  main,  endeavored  to 
limit  the  return  upon  the  securities  of  utiUty  corporations  to  a  reasonable 
basis.  Consequently,  if  bond  discount  is  to  be  regarded  by  the  Commis- 
sions as  interest  paid  in  advance  to  be  amortized  in  annual  payments 
within  the  life  of  the  bonds,  it  follows  that  the  bonds  should  be  sold  at 
as  high  a  price  as  possible.  It  is  obvious  that  the  lower  the  price  at  which 
a  bond  is  sold  the  higher  will  be  the  fixed  charges  upon  it.  A  bond  bear- 
ing a  reasonably  low  rate  of  interest  may  be  sold  low  enough  to  yield  an 
unreasonably  high  rate.  Bonds  have  often  been  disposed  of  privately 
by  an  issuing  company  at  a  price  so  low  as  to  net  favored  parties  a  higher 
yield  than  would  have  been  necessary  if  they  had  been  offered  to  the 
pubUc. 

The  Commissions,  realizing  the  difficulty  of  themselves  fixing  the 
price  accurately,  have  generally  stipulated  that  the  public  be  given  an 
opportunity  to  bid,  as  is  often  done  in  the  case  of  municipal  bonds.  In 
some  cases  the  Commissions  have  arbitrarily  fixed  what  they  deemed  to 
be  a  fair  price.  Likewise  the  stock  of  certain  corporations  may  be 
worth  in  the  market  much  more  than  par,  and  the  disposal  of  it  at  par 
to  present  stockholders  may  give  them  a  profit  which  should  rightfully 
go  to  the  corporation  itself. 

Stringency  in  the  money  market  may  make  necessary  high  rates  of  re- 
turn which  it  would  not  be  justifiable  to  incur  over  a  long  period  such  as 
would  be  the  case  with  long  term  bonds  or  with  cumulative  preferred 
stock.  In  the  latter  case,  indeed,  the  charge  would  be  perpetual.  Such 
exigencies  are  generally  met  by  means  of  short  term  notes. 

Finally,  a  corporation  may  have  its  property  so  encumbered  that  its 
credit  is  exhausted.  Nevertheless,  it  may  be  in  urgent  need  of  new  equip- 
ment to  meet  reasonable  demands  of  the  pubUc  service,  demands  which 
it  is  the  prime  duty  of  a  commission  to  enforce.  In  such  a  case  resort  is 
had  to  "car-trust  certificates"  or  "equipment  notes."  Under  these 
forms  of  securities  the  title  to  the  property  involved,  that  is,  the  units  of 
equipment  purchased  with  the  proceeds  of  the  notes,  rests  with  the  credi- 
tors, as  represented  by  their  trustee,  until  payment  is  completed. 

Public  Offering  Made  a  Test  of  Market  Value  of  Bonds 
The  Bronx  Gas  and  Electric  Company,  in  connection  with  an  applica- 


80  CAPITAL  CONTROL  IN  NEW  YORK 

tion^  for  authorization  from  the  First  District  CommissioR  to  issue  cer- 
tain bonds,  requested  permission  to  sell  the  bonds  to  a  private  banking 
house  at  90.  A  representative  of  the  banking  house  admitted  that  they 
expected  to  sell  them  at  95  or  more.  The  Commission  held  that  it  would 
not  approve  the  issuance  of  the  bonds  at  such  a  figure  unless  a  sale  at 
public  letting  to  which  all  could  have  access  should  show  that  90  was  the 
full  market  value  of  the  bonds.^ 

In  its  approval  of  an  application^  made  by  the  Kings  County  Lighting 
Company  for  authorization  of  an  issue  of  bonds  to  the  amount  of  $200,000 
for  needed  extensions  to  plant,  the  First  District  Commission  granted  the 
permission  asked,  but  stipulated  in  its  order  that  these  5  per  cent  deben- 
ture bonds  might  be  sold  at  private  sale  at  not  less  than  par  after  pay- 
ment of  all  commissions  and  expenses.  The  appHcant  subsequently 
asked  that  this  minimimi  be  revised  to  973^,  and  the  Commission  agreed. 

*  Matter  of  the  Application  of  the  Bronx  Gas  and  Electric  Company,  2  P.S.C.R., 
1st  Dist.,  N.  Y.,  178.    Opinion  adopted  January  14, 1910. 

'  The  Order  form  stipulating  that  securities  be  offered  at  Public  sale  is  quoted 
herewith  (see  Rules  of  Procedure  and  Regulations  Public  Service  Commission  1st  Dist., 
N.Y.,page29). 

"CLAUSE  7,  PUBLIC  SALE  OF  SECURITIES 

"  Second,  That  no  (bonds)  [notes,  etc.]  authorized  hereunder  shall  be  sold  by  the 
company  for  less  than  .  .  .  ( — )  per  cent  of  par  with  interest  accrued  thereon,  unless 
the  same  shall  be  first  offered  to  public  subscription,  as  herein  provided.  Whenever 
the  company  shall  desire  to  sell  (bonds)  [notes,  etc.]  issued  hereunder  except  for  not 
less  than  .  .  .  ( — )  per  cent  of  par  and  accrued  interest,  the  treasurer  of  the  company 
shall  invite  proposals  for  the  purchase  of  such  (bonds)  [notes,  etc.]  by  public  advertise- 
ment for  not  less  than  once  a  week  for  four  successive  weeks  in  at  least  four  daily  news- 
papers published  in  the  City  of  New  York  and  shall  award  the  same  to  the  highest  bid- 
der therefor.  The  said  proposals  shall  only  be  publicly  opened  by  the  treasurer  of 
the  company  and  in  the  presence  of  the  Public  Service  Commissioners  for  the  First 
District  or  such  of  them  as  shall  attend  at  the  time  and  place  specified  in  such  public 
advertisement.  It  shall  be  a  condition  of  said  sale  (and  the  advertisement  calling 
for  proposals  therefore  shall  so  declare)  that  any  bidder  may  bid  for  all  or  none  of  said 
bonds  at  one  price,  or  for  all  or  any  portion  at  one  price,  or  for  portions  at  different 
prices,  and  any  bidder  who  shall  bid  for  the  portion  of  said  (bonds)  [notes,  etc.]  may 
be  required  to  accept  a  part  of  the  portion  bid  for  by  him  at  the  same  rate  as  may  be 
specified  in  his  bid,  and  any  bid  which  conflicts  with  this  condition  may  be  rejected; 
and  if  the  board  of  directors  deem  it  to  be  in  the  interest  of  the  company  so  to  do,  they 
may  award  the  (bonds)  [notes  etc.]  to  the  bidder  offering  the  highest  price  for  all  or  a 
number  of  the  said  (bonds)  ]notes,  etc.]  and  provided  also  that  if  the  board  of  directors 
deem  it  to  be  in  the  interest  of  the  company  they  may  reject  all  bids.  The  board  of 
directors  may  prescribe  other  conditions  incident  to  and  providing  for  the  proposal  for 
the  purchase  of  (bonds)  [notes,  etc.]  as  it  may  see  fit." 

'Matter  of  Application  of  the  Kings  County  Lighting  Company,  1  P.S.C.R., 
1st  Dist.,  N.  Y.,  700.    Opinion  adopted  July  2, 1909, 


CAPITAL  CONTROL  IN  NEW  YORK  81 

In  the  matter  of  the  application^  of  the  Hudson  River  and  Eastern 
Traction  Company,  which  was  described  on  page  64,  issuance  of  5  per 
cent  bonds  at  80,  as  asked  by  the  petitioner,  was  approved,  but  in  this 
case  the  risk  was  considered  so  great  that  the  Second  District  Commis- 
sion endeavored  to  deny  moral  responsibihty  for  the  whole  proceeding, 
although  a  higher  price  for  the  proposed  bonds  would  have  been  ridiculous 
in  view  of  the  risk  involved. 

In  the  case  of  the  application^  of  the  Rochester  Corning  Elmira  Trac- 
tion Company,  the  Second  District  Commission  stipulated  that  the  5  per 
cent  bonds  there  proposed  should  not  be  disposed  of  at  less  than  85.  The 
Commission  based  its  approval  of  the  issue  of  the  securities  in  this  case 
upon  a  thorough  investigation  and  seemed  to  consider  the  proposed  pro- 
ject to  be  reasonably  sure  of  success. 

In  the  case  of  an  application  of  the  New  York  and  Ontario  Power 
Company,  the  applicant  corporation  proposed  to  issue  5  per  cent  bonds  at 
80,  and  the  Second  District  Commission  stipulated  81,  stating  that  this 
price  was  not  out  of  keeping  with  a  new  proposition  of  this  character.^ 

These  instances  go  to  show  that  the  Commissions,  in  fixing  the  prices 
of  bond  issues  themselves  can,  at  best,  merely  feel  their  way  and  base 
their  conclusions  upon  the  relative  amount  of  risk,  price  of  money,  and 
similar  factors. 

Possibility  of  Bonds  Being  Worth  More  Than  Par 
Kings  County  Electric  Light  and  Power  Company  applied  for  ap- 
proval of  an  issue  of  $5,000,000  convertible  debenture  bonds  to  be  sold  at 
par.  In  view  of  the  prosperous  condition  of  the  company,  however,  ob- 
jection was  made  to  allowing  the  applicant  to  sell  the  securities  at  par,  as 
it  was  felt  that  they  were  worth  more,  and  that  the  company,  rather  than 
the  purchasers,  should  have  the  benefit.''  It  appeared  that  the  prospect 
that  the  present  stockholders  would  be  allowed  to  subscribe  for  the  deben- 
tures at  par  had  raised  the  market  value  of  the  stock.  Therefore,  it  was 
argued,  the  debentures  must  be  worth  more  than  par.  It  was  pointed 
out  that,  in  1901,  when  the  financial  stabiHty  of  the  company  was  much 

*  Matter  of  Application  of  the  Hudson  River  and  Eastern  Traction  Company, 
3  P.S.C.R.,  2nd  Dist.,  N.  Y.,  172.    Decides  December  27, 1911. 

*  Matter  of  Application  of  the  Rochester  Coming  Elmira,  Traction  Company, 
1  P.S.C.R.,  2nd  Dist.,  N.  Y.,  166.    Decided  March  30,  1908. 

*  Matter  of  Application  by  the  New  York  and  Ontario  Power  Company  1  P.S.C.R. 
2nd  Dist.,  N.  Y.,  453.    Decided  January  14, 1909. 

^  Matter  of  Application  of  the  King's  County  Electric  Light  and  Power  Com- 
pany, 2P.S.C.R.,  1st  Dist.,  N.  Y.,  193.    Opinion  adopted  Jantiary  24, 1910. 


82  CAPITAL  CONTROL  IN  NEW  YORK 

less  pronounced,  a  small  lot  of  stock  offered  to  the  public  had  brought 
over  140.  These  debentures,  it  was  argued,  were  even  preferable  to  the 
stock,  inasmuch  as  they  gave  the  holder  the  option  of  the  safety  of  bonds 
or  of  conversion  into  stock  if  the  circumstances  warranted.  Therefore, 
the  company  should  obtain  as  high  a  price  as  possible.  The  bonds  were, 
however,  allowed  to  be  offered  at  par. 

The  same  question  was  involved  in  the  application*  of  the  Astoria 
Company  for  permission  to  issue  $9,500,000  additional  common  stock, 
and  first  mortgage  bonds  to  the  amount  of  $5,000,000  with  an  interest 
rate  of  53^  per  cent.  This  was  an  unusual  return  upon  first  mortgage 
bonds  of  a  corporation  of  such  unquestioned  stabiHty,  and  the  matter 
caused  a  division  of  opinion  in  the  First  District  Commission. 

It  was  claimed,  upon  the  part  of  the  company,  that  as  the  bonds 
would  retire  6  per  cent  obligations  the  plan  would  effect  a  reduction  in 
fixed  charges.  This  reason  seemed  weak  in  view  of  the  difference  in  the 
nature  of  notes  and  long-time  bonds.  The  exigencies  of  the  money  mar- 
ket were  advanced  as  justification,  and  sundry  bonds  of  railroads  and 
public  utilities  selling  on  such  a  basis  were  cited  in  support  of  the  reason- 
ableness of  the  proposed  rate. 

Commissioner  Maltbie  objected  vigorously  to  the  issue  of  50  year,  first 
mortgage  bonds  at  5^  per  cent  when  based  upon  such  unquestioned 
security  as  underlay  these  proposed  bonds.  He  pointed  to  the  fact  that 
no  mortgage  bonds  issued  by  any  company  now  comprised  in  the  Consoli- 
dated Gas  system  (the  applicant  was  a  subsidiary  of  the  Consolidated  Gas 
Company)  bore  a  higher  rate  than  5  per  cent  and  that  none  of  such  bonds 
were  quoted  below  par. 

A  bond  closely  resembling  the  Astoria  bond,  the  dissenting  opinion 
held,  was  the  5  per  cent  first  consolidated  mortgage  bond  of  the  Brooklyn 
Union  Gas  Company,  which  was  selling  for  more  than  par.  The  pro- 
posed bonds  of  the  Astoria  Company  represented  only  one-third  of  an  in- 
vestment that  was  paying  substantial  dividends  to  the  stockholders  of 
the  Consolidated  Gas  Company.  The  latter  had  made  a  joint  applica- 
tion to  be  allowed  to  take  over  the  securities  applied  for,  and  hence  there 
would  be  no  commissions  or  other  expenses  attendant  upon  the  marketing 
of  the  bonds.  This  seemed  to  be  a  reason  for  approval  in  the  minds  of 
those  who  favored  the  53^  per  cent  rate.  Commissioner  Maltbie  pointed 
out*  that  if  5  per  cent  bonds  similarly  situated  could  be  sold  at  par  or 
above,  and  these  53^  per  cent  bonds  were  to  be  taken  over  by  the  Con- 

•  Matter  of  Application  of  the  Astoria  Light,  Heat  and  Power  Company,  5  P.S. 
C.R.,  1st  Dist.,  N.  Y.,  122.    Opinions  filed  March  3, 1914. 


CAPITAL  CONTROL  IN  NEW  YORK  83 

solidated  Gas  Company  at  par,  they  could  be  sold  by  the  latter  at  a  pre- 
mium of  8  or  10  points,  netting  $400,000  or  $500,000  with  which  to  pay 
dividends  that  had  not  been  earned  from  the  manufacture  and  sale  of 
gas.  Moreover,  the  dissenting  opinion  contended,  approval  of  a  rate 
of  5}4  per  cent  could  be  used  in  future  rate  cases  as  the  basis  of  an  argu- 
ment as  to  the  necessary  cost  of  obtaining  money  for  pubUc  service  enter- 
prises.   For,  to  quote  from  the  minority  opinion, 

if  a  public  utility  could  cite  the  commission's  approval  of  a  first  mortgage  bond  cover- 
ing only  one-third  of  the  investment  in  a  $15,000,000  plant,  and  nevertheless  carrying 
a  5}4  per  cent  interest  charge,  it  might  argue  that  a  fair  rate  of  return  on  the  whole 
property,  including  the  risk  assumed  by  stockholders,  should  greatly  exceed  the  6 
per  cent  that  was  conceded  by  the  Supreme  Court  as  sufficient  in  the  80-cent  case.' 

Therefore,  the  dissenting  opinion  held,  the  Commission  could  not 
properly  certify  that  an  issue  of  $5,000,000  50-year,  53^  per  cent  bonds 
for  the  refunding  of  obUgations  amounting  to  $5,000,000  was  "reason- 
ably required,"  as  laid  down  under  the  capitalization  sections  of  the 
Public  Service  Commissions  Law.^^"  The  bonds  were,  however,  allowed 
to  be  issued  at  par. 

In  another  instance  the  ConsoUdated  Gas  Company  of  New  York 
City  appHed  for  permission  to  issue  $25,000,000  of  6  per  cent  convertible 
debentures  and  $25,000,000  of  additional  common  stock  for  the  purpose 
of  the  conversion.^^  The  proceeds  were  to  be  applied  to  the  reimburse- 
ment of  monies  expended  from  income  or  other  fimds  in  the  treasury  of 
the  company.  The  authorization  asked  for  was  given,  but  Commissioner 
Maltbie  objected  upon  the  groimd  that  the  issuing  of  these  $25,000,000 
debentures,  convertible  after  three  years  and  due  after  five  years,  was  not 
"reasonably  required  for  the  purposes  specified. "  This  was  due  to  the 
fact  that  the  debentures  had  a  market  value  of  from  1 10  to  1 15 .  There- 
fore, there  would  be  required  from  $2,300,000  to  $3,250,000  less  than  the 
$25,000,000.  If  the  selHng  price  of  bonds  had  to  be  reduced  in  some 
cases  as  low  as  20  below  par  to  meet  the  conditions  of  the  money  market, 
and,  perhaps,  a  lack  of  confidence  in  the  security  underlying  the  bonds  in 
specific  cases,  why,  the  Commissioner  argued,  should  not  the  rule  work 
the  other  way,  too?  And  where  a  company's  credit  was  so  good  as  to 
cause  securities  to  sell  above  par,  such  conditions  it  was  claimed,  should 

•Willcox  et  al.,  vs.  The  Consolidated  Gas  Company,  212  U.  S.  19.  Decided 
January  4, 1909.    See  pages  49  and  50  of  this  opinion. 

"  See  sections  55, 69, 82  and  101.    Chapter  480,  Laws  of  1910. 

"  Matter  of  Application  of  the  Consolidated  Gas  Company  of  New  York  City. 
5  P.S.C.R.,  1st  Dist.,  N.  Y.,  339.    Opinion  filed  December  18, 1914. 


84  CAPITAL  CONTROL  IN  NEW  YORK 

be  made  to  benefit  the  company  itself  and  not  stockholders  or  debenture 
holders  in  their  capacity  as  individuals.  In  other  words,  par  was  less 
than  a  fair  value,  and  was,  therefore,  exorbitant  to  the  company.  As 
with  the  Astoria  bonds,  the  plan  here  involved  seemed  susceptible  of 
giving  a  chance  for  a  ten-point  profit  which  would  not  be  derived  from 
the  legitimate  business  of  the  company. 

The  attitude  of  the  New  York  Commissions,  especially  of  the  First 
District  Commission,  may  be  said  to  have  been  very  liberal  towards  pub- 
lic service  corporations  in  the  matter  of  the  issue  prices  of  securities. 

High  Rate  of  Return  Due  to  Temporary  Necessity 
Should  Not  be  Made  Permanent 

In  the  case  of  the  application  of  the  Newburgh  Light,  Heat  and  Power 
Company,  the  Second  District  Commission  refused  to  permit  the  alleged 
exigencies  of  the  money  market  to  be  used  as  an  excuse  for  an  abnormally 
high  rate  of  return  in  perpetuity .^^  xhe  Newburgh  Company  applied 
for  permission  to  increase  its  capital  stock  from  $500,000  to  $750,000, 
and  to  classify  the  capital  stock  so  increased  into  $500,000  of  common 
stock  and  $250,000  of  8  per  cent  cumulative  preferred  stock.  Of  course, 
what  this  request  really  amounted  to  was  an  issue  of  $250,000  of  8  per 
cent  cumulative  preferred  stock  in  addition  to  the  outstanding  $500,000 
of  common  stock. 

The  Commission  was  convinced  that  the  purposes  to  which  the  capi- 
tal was  to  be  applied  were  within  the  law,  that  such  capital  was  "reason- 
ably required"  for  such  purposes,  and  that  the  present  earning  power 
warranted  the  expectation  that  it  could  easily  meet  the  return  upon  the 
new  issue  in  addition  to  the  dividends  on  the  present  stock. 

The  appHcation  was  denied  because  the  Commission  regarded  the 
interest  rate  as  unreasonably  high.  It  was  stock,  and  therefore,  per- 
petual, as  the  dividends  were  to  be  cumulative.  The  Commission 
expressed  itself  as  follows: 

An  issue  of  $250,000  eight  per  cent  cumulative  preferred  stock  would  create  a  per- 
manent annual  charge  of  $20,000  upon  the  property,  and,  in  our  judgment,  allowance 
of  a  permanent  fixed  charge  of  this  character  to  meet  temporary  exigencies  of  the 
money  market  is  not  justified.  The  distinction  between  a  continuing  capital  burden 
of  that  description  and  an  issue  of  bonds  or  notes  for  a  short  term,  bearing  a  fair  rate 
of  interest,  even  if  sold  at  a  moderate  discount,  is  obvious.  Favorable  action  upon 
this  petition  would  constitute  a  precedent  which,  if  followed  in  other  cases,  might 

"  Matter  of  Application  of  the  Newburgh  Light,  Heat  and  Power  Company,  1 
P.S.C.R.,  2nd  Dist.,  N.  Y.,  7.    Decided  August,  21, 1907. 


CAPITAL  CONTROL  IN  NEW  YORK  85 

operate  disastrously  to  minority  stockholders,  and  also  work  hardship  upon  affected 
communities  through  the  continuous  necessity  for  service  rates  or  charges  sufficiently 
high  to  meet  such  permanent  obUgations.^' 

About  a  year  later,  the  same  company  made  a  second  application,  this 
time  for  leave  to  issue  ten-year  convertible  bonds  (convertible  into  com- 
mon stock),  bearing  interest  at  8  per  cent,  to  the  amount  of  $350,000." 

The  appHcant  had  made  further  investments  in  plant  since  the  pre- 
vious application,  and  this  accounted  for  the  increase  asked  for.  The 
Commission,  after  investigation  by  its  engineers,  made  certain  reductions 
in  the  detailed  estimate  of  expenditures  submitted,  and  held  that  $330,000 
would  be  sufficient.  It  was  felt  that  the  objections  made  to  the  former 
apphcation  had  here  been  met,  as  the  issue  of  bonds  was  for  a  compara- 
tively short  term.  Their  convertibihty  into  common  stock  the  Com- 
mission did  not  view  as  objectionable,  as  they  were  to  be  sold  for  par. 
The  Commission  expressly  stipulated  that  any  conversion  of  these  bonds 
into  stock,  after  the  expiration  of  two  years  and  before  maturity,  should 
take  place  upon  a  particular  day,  and  after  thirty  day's  notice  to  bond- 
holders, in  order  that  those  desiring  might  avail  themselves  of  the  privi- 
lege. It  was  further  stipulated  that,  preliminary  to  any  such  conversions, 
the  formal  approval  of  the  Commission  must  be  obtained  upon  applica- 
tion in  writing  by  the  Company,  so  that  any  issue  of  stock  should  be 
made  upon  the  express  authorization  of  the  Commission. 

The  Commission  felt  that  existing  market  prices  of  securities  justified 
8  per  cent  on  a  ten-year  bond,  as  this  was  equivalent  in  yield  to  a  5  per 
cent  ten-year  bond  at  80  or  a  6  per  cent  ten-year  bond  at  86.4. 

The  8  per  cent,  preferred  cumulative  stock  asked  for  in  the  previous 
application  would  have  been  equal  to  a  perpetual  8  per  cent  bond,  except, 
of  coui-se,  that  default  of  interest  would  not  have  thrown  the  company  in 
to  receiver's  hands.  The  result  to  the  rate-paying  public  would  have 
been  the  same,  as  a  Commission  would  feel  obliged  to  adjust  rates  to  meet 
charges  upon  securities  of  which  it  had  itself  approved.  On  the  other 
hand,  the  bonds,  even  if  carried  to  maturity  as  such,  ran  for  a  compara- 
tively limited  period,  and  if  converted  into  stock  in  the  mean  time  would 
not  have  a  stated  or  a  cumulative  charge,  as  they  could  only  be  converted 
into  common  stock. 

"  See  1  P.S.C.R.,  2nd  Dist.  N.  Y.,  bottom  page  8. 

"  Matter  of  Application  of  the  Newburgh  Light,  Heat  and  Power  Company,  1 
P.S.C.R.,  2nd  Dist.  N.  Y.,  210.    Decided  April  29, 1908. 


86  CAPITAL  CONTROL  IN  NEW  YORK 

Bonds  Used  as  a  Basis  for  Short  Term  Notes 
An  application  of  the  Coney  Island  and  Brooklyn  Railroad  Company 
for  approval  of  an  issue  of  short-term  notes  based  upon  bonds  brought  up 
an  interesting  method  of  meeting  temporary  exigencies  of  the  money 
market.  Upon  an  application  for  authority  to  issue  bonds  for  new  con- 
struction, it  appeared  that  the  bonds  proposed  to  be  issued  were  4  per 
cent  bonds,  to  be  issued  under  a  mortgage  executed  in  1904  under  the 
approval  of  the  Board  of  Railroad  Commissioners.^  The  purpose  for 
which  the  proceeds  were  proposed  to  be  used  were  such  as  were  contem- 
plated in  that  mortgage.  The  property  of  the  company  was,  however, 
held  imder  that  mortgage  and  it  did  not  seem  practicable  for  this  occasion 
to  pledge  other  property  of  the  company  to  raise  the  required  funds.  On 
the  other  hand,  such  4  per  cent  bonds  could  not  be  disposed  of  at  more 
than  80.  It  was  held  that  "  in  view  of  the  necessity  of  the  case  and  of  the 
great  public  need  of  this  improvement"  the  bonds  should  be  authorized 
to  be  sold,  at  not  less  than  80,  and  the  discount  amortized  within  the  life 
of  the  bonds. 

The  company,  however,  after  obtaining  permission  to  sell  the  bonds  at 
80,  came  to  the  conclusion  that  this  would  be  too  much  of  a  sacrifice,  and 
a  plan  was  evolved  of  using  said  bonds  on  a  basis  of  80  as  security  for  the 
issue  of  three-year  6  per  cent  notes,  the  holder  of  the  bonds  to  be  allowed 
to  take  them  over  at  85,  if  he  so  desired,  or  the  company  to  redeem  the 
notes  at  101,  and  thus  release  the  bonds.  The  Company  hoped  that  by 
thus  issuing  notes  to  meet  the  urgent  need  of  fimds,  there  would  be 
secured  an  opportunity  within  the  three-year  life  of  the  notes  to  sell  and 
dispose  of  the  bonds  at  a  better  price  than  80.  For  $500,000  of  notes, 
$625,000  of  bonds  were  to  be  pledged.  This  plan  met  with  the  approval 
of  the  Commission. ^^ 

Car  Trust  Bonds  Used  in  Case  of  Weakened  Credit 
This  form  of  security  is  used  very  generally  in  those  cases  in  which  a 

corporation  has  aheady  exhausted  the  usual  resources  of  its  credit  and 

finds  itself  unable  to  take  title  to  new  property  (or  equipment)  which  it 

does  not  as  yet  own. 

In  1908  the  Coney  Island  and  Brooklyn  Raihoad  Company  had  been 

directed  by  the  First  District  Commission  to  acquire  ten  new  cars,  but 

"  Matter  of  Application  of  the  Coney  Island  and  Brooklyn  Railroad  Company, 
2  P.S.C.R.,  1st  Dist.,  N.  Y.,  336.    Opinion  adopted  July  29, 1910. 

"  Matter  of  Application  of  the  Coney  Island  and  Brooklyn  Railroad  Company, 
2  P.S.C.R.,  1st  Dist.,  N.  Y.,  481.    Opinion  adopted  December  30, 1910. 


CAPITAL  CONTROL  IN  NEW  YORK  87 

did  not  have  sufl5cient  funds  on  hand  to  carry  through  the  purchase. 
Under  an  existing  mortgage,  it  could,  with  the  approval  of  the  Conunis- 
sion,  issue  4  per  cent  bonds,  but  the  condition  of  the  money  market  made 
the  use  of  such  bonds  extravagant,  as  long-term  bonds  sold  at  a  heavy  dis- 
count would  mean  high  interest  for  a  long  period.  Accordingly,  it  ap- 
plied for  approval  of  an  issue  of  $30,000  of  6  per  cent  gold  "car- trust 
bonds, "  to  be  sold  at  not  less  than  par.^^  They  were  not  to  constitute  a 
Hen  upon  the  assets  of  the  company,  or  to  be  secured  by  any  mortgage 
thereon.  The  payments  by  the  company  upon  the  cars  were  to  be  con- 
sidered as  rental,  and  the  title  of  the  cars  was  to  remain  in  the  trustee 
until  the  final  payment  had  been  made.  The  cars  were  to  be  marked 
"Brooklyn  Trust  Company,  Lessor, "  and  the  contract  further  provided  a 
method  of  substitution  in  the  event  of  their  destruction  while  in  the 
possession  of  the  operating  company.  Also,  in  case  the  company  should 
default  in  payments  or  fail  to  keep  the  cars  in  good  condition,  or  perform 
any  of  the  other  stipulations  in  the  contract,  the  trustee  could  declare  the 
agreement  terminated  and  aU  installments  of  rent  would  become  due  and 
payable,  and  the  trustee  could  enter  upon  the  premises  of  the  raihoad 
and  retake  the  said  cars.  In  view  of  the  condition  of  the  money  market 
and  the  urgent  necessity  of  having  the  cars,  the  Commission  approved  the 
application.  In  case  the  bonds  sold  for  more  than  par,  the  premium  was 
to  go  to  the  appUcant. 

Similarly,  in  1914,  the  Staten  Island  Company  appUed  for  consent  to 
issue  equipment  trust  6  per  cent  certificates  to  the  amoimt  of  $135,000,  to 
be  paid  off  within  ten  years  in  semi-annual  installments.^*  The  manu- 
facturer of  the  cars  was  to  assign  title  in  them  to  the  Bankers  Trust 
Company.  The  latter  would  then  subscribe  to  the  certificates  and  the 
Railway  Company  would  get  no  title  to  the  cars  until  the  certificates  were 
paid.  It  appeared  that  some  such  plan  was  the  only  means  by  which  the 
apphcant  could  obtain  new  equipment,  as  interest  on  its  first  mortgage 
bonds  had  not  been  paid  for  some  years,  and  the  mortgage  contained  an 
"after  acquired"  clause  which  would  prevent  the  company  from  borrow- 
ing money  on  the  cars  if  title  were  to  vest  in  the  company. 

In  addition  to  the  certificates,  $35,000  in  cash  was  to  be  paid  upon 
deUvery  of  the  cars.    There  was  a  question  as  to  how  much  of  the  new 

"  Matter  of  Application  of  the  Coney  Island  and  Brooklyn  Railroad  Company, 
1  P.S.C.R.,  1st  Dist.,  N.  Y.,  1 13.    Opinion  adopted  February  18, 1908. 

"Matter  of  Application  of  the  Staten  Island  Midland  Railway  Conq>any,  5 
P.S.C.R.,  1st  Dist.,  N.  Y.,  345.    Opinion  adopted  December  22, 1914. 


88  CAPITAL  CONTROL  IN  NEW  YORK 

capital  should  be  charged  to  "Capital  Account,"  and  how  much  to 
"Replacements."    This  phase  of  the  application  has  been  fully  dis- 
cussed elsewhere  under  the  heading  of  "  Replacements. "     (Seepage  108.) 
Funding  of  Bond  Interest  to  Meet  Credit  Emergency 

The  Erie  Railroad,  in  order  to  meet  an  exigency  due  to  the  overbur- 
dened condition  of  the  corporation's  credit,  presented  to  the  Second  Dis- 
trict Commission  a  plan  for  procuring  funds  by  funding  the  interest  upon 
certain  bond-issues  for  a  period  of  five  years.  ^^ 

The  general  opinion  seemed  to  be  that  the  Erie  had  great  possibilities, 
but  it  had  always  been  handicapped  by  large  fixed  charges,  due  partly  to 
heavy  bond  issues,  and  partly  to  high  operating  expenses  resulting  from 
an  inefficiently  built  road.  Thus,  it  had  always  had  to  steer  between 
Scylla  and  Charybdis,  doing  fairly  well  in  periods  of  prosperity,  but 
encountering  serious  difficulties  with  the  first  approach  of  'hard  times.' 
The  bond  issues  must  take  their  natural  course,  but  the  management 
had  always  felt  that  the  high  operating  expenses  could  be  greatly  reduced 
if  sufficient  improvements  were  made  to  the  system.  The  difficulty  was 
to  get  the  needed  capital.  In  view  of  the  former  vicious  management 
of  its  capitalization,  additional  securities  issued  seemed  out  of  the 
question,  except  as  a  temporary  emergency  measure. 

The  only  remaining  resource  was  earnings,  and  these  were  heavily 
eaten  into  each  year  by  a  combination  of  fixed  charges  and  large  operating 
expenses.  The  heavy  fixed  charges  consumed  that  part  of  net  earnings 
which  might  have  been  devoted  to  a  reconstruction  of  certain  parts  of  the 
road,  and  which  would  have  resulted  in  a  consequent  reduction  in  oper- 
ating expenses.  On  the  other  hand,  the  high  operating  expenses  pre- 
vented any  acceleration  in  the  liquidation  of  the  corporation's  heavy 
indebtedness. 

The  only  element  in  the  situation  that  offered  a  direct  gain  was  an  in- 
crease in  net  income  through  increased  efficiency.  This  could  be  effected 
only  through  the  investment  of  large  sums  in  the  reconstruction  of  parts 
of  the  physical  system.  If  a  substantial  portion  of  the  fixed  charges 
could  be  escaped  for  a  period  of  years,  and  the  amount  involved  put  into 
the  road,  a  large  saving  in  operating  expense  could  be  effected.  With 
the  idea  of  breaking  the  vicious  circle,  the  management  of  the  Erie  sub- 
mitted their  plan  for  the  approval  of  the  Commission. 

During  the  year  1908  the  Erie  had  suffered  a  disastrous  strike,  as  a 
result  of  which  that  year  showed  a  deficit  of  over  a  miUion  and  a  half 

i»  The  Matter  of  Application  of  Erie  Railroad  Company,  1  P.S.C.R.,  2nd  Dist., 
N.  Y.,  471.    Decided  March  2, 1909. 


CAPITAL  CONTROL  IN  NEW  YORK  89 

of  dollars  as  compared  with  surpluses  of  from  four  and  a  half  to  six  mil- 
lions in  previous  years.  Its  condition  was  considered  so  acute  that  the 
Commission,  as  an  emergency  measure,  gave  permission  for  the  issuance 
of  6  per  cent  notes  to  the  extent  of  $15,000,000  to  run  not  to  exceed  five 
years.  These  notes  had  been  issued  for  three  years,  and  at  the  time  of 
this  application,  (1909)  would  soon  mature,  and,  in  addition,  large  im- 
provements but  partially  completed  would  require  heavy  expenditures. 
On  the  other  hand,  the  business  depression  resulting  from  the  panic  of 
1907  still  continued  to  seriously  affect  net  income. 

The  plan  involved  approval  of  an  issue  of  $30,000,000,  5  per  cent 
bonds,  to  mature  in  not  over  thirty  years.  Of  the  authorized  issue  of 
notes  mentioned  above,  810,500,000  had  already  been  put  out.  For  notes 
already  issued,  and  such  additional  part  of  the  issue  as  should  hereafter 
be  sold,  the  plan  proposed  to  exchange  these  bonds  when  it  was  deemed 
advisable,  thus  avoiding  the  early  maturity  involved  in  the  notes. 

The  semi-annual  interest  coupons  of  the  appHcant's  4  per  cent  convert- 
ible and  general  lien  bonds  would  amount,  during  the  ensuing  five  years, 
to  $11,380,000.  The  company's  idea  was  to  temporarily  fund  this  inter- 
est by  exchanging  an  amoimt  of  the  proposed  bonds  equal  in  face  value 
to  the  amoxmt  of  the  coupons;  but  upon  condition  that  the  collateral 
trust  indenture  imder  which  the  bonds  were  to  be  issued  and  the  Com- 
mission's order  should 

provide  for  the  expenditure  by  the  company  from  income  each  jrear  of  the  said  five 
years  an  amoimt  up>on  improvements  of  the  property  equal  to  the  face  value  of  the 
coupons  falling  due  semi-annually  imder  the  convertible  and  general  lien  bond  issues, 
thereby  cauising  the  extension  of  the  interest  debt  to  cease  one-fifth  each  year  and  so 
render  such  proposed  bonds  to  the  extent  of  one-fifth  each  year  to  be  for  improvement 
of  the  property.*' 

Thus,  at  the  end  of  five  years  the  bonds  so  exchanged  for  coupons 
would  not  represent  funded  interest  at  all,  but  capital  actually  expended 
for  improvements.  The  remaining  bonds  were  to  be  sold  for  not  less 
than  873^  for  the  purpose  of  improvements  and  betterments  or  for  the 
discharge  of  bonds  or  equipment  obhgations  maturing  in  the  near  future. 

Another  general  condition  was  that  the  aggregate  of  notes  outstanding 
under  the  $15,000,000  authorization,  and  the  bonds  issued  imder  the 
indenture  under  consideration  should  not  exceed  the  $30,000,000  speci- 
fied in  the  latter.  If  the  remainder  of  the  authorized  notes  were  issued, 
the  remaining  amount  of  bonds  to  be  sold  would  be  that  much  less. 

»  See  1  P.S.C.R.,  2nd  Dist.,  N-Jy.,  bottom  of  page  474. 


90  CAPITAL  CONTROL  IN  NEW  YORK 

The  proposed  scheme  would  have  resulted  in  an  increase  of  the  com- 
pany's funded  debt  by  $30,000,000.  To  offset  this  there  would  be  the 
following  advantages: 

(1)  The  funding  of  the  short  term  notes  which  could  be  issued  up  to 
$15,000,000. 

(2)  The  funding  of  $11,380,000  of  interest  which  would  accrue  during 
the  next  five  years  on  two  subordinate  mortgage  liens. 

(3)  The  proposed  expenditiu-e  of  the  remaining  bonds  (the  amount 
depending  upon  the  notes  issued)  for  the  improvements  and  betterments. 

In  regard  to  the  second  item,  it  should  be  pointed  out  that  as  the 
interest  became  due  semi-annually,  the  expending  from  income  of  at  least 
an  equal  amount  upon  improvements  and  betterments  would  constitute 
a  proper  subject  of  capitalization.  In  other  words,  the  funding  of  the 
interest  debt  would,  at  the  end  of  the  five-year  period,  have  been  trans- 
formed into  additional  capital.  The  interest  payments  of  which  the 
company  would  be  relieved  amounted  to  $2,276,000  per  year.  From 
this  there  had  to  be  subtracted  interest  at  5  per  cent  upon  the  new  bonds 
devoted  to  the  funding  purposes.  The  average  amount  of  such  interest 
would  bring  the  net  temporary  relief  afforded  to  $1,707,000  per  year. 

It  was  felt  that,  while  the  company  might  manage  to  get  along  with- 
out such  relief,  radical  steps  would  be  justified  to  place  it  upon  a  sounder 
financial  basis.  The  corporation  labored  in  a  slough  of  over- 
capitalization which  rendered  its  general  condition  and  its  credit 
precarious  with  the  first  approach  of  business  depression.  The  only 
remedy  seemed  to  he  in  some  plan  of  financial  re-adjustment  which 
would  enable  it  to  pay  from  income  for  a  number  of  years  the  cost  of 
a  series  of  additions  and  improvements  to  its  road-bed  for  the  purpose 
of  decreasing  operating  costs.  The  corporation  would  then  be  able  to 
build  up  a  surplus  to  carry  it  over  lean  times,  and  could  gradually,  it 
was  hoped,  extricate  itself  from  its  over-burdened  financial  condition. 

The  Commission  held  that  any  plan  involving  the  funding  of.  bond- 
interest  upon  the  part  of  a  pubhc  service  corporation  should  be  summarily 
rejected,  unless  specific  conditions  were  attached  which  would  warrant 
such  unusual  financing.  In  the  present  case,  however,  it  was  held  that 
in  view  of  the  merits  of  the  individual  case,  the  purposes  for  which  the 
capital  was  to  be  used  were  within  those  enumerated  in  the  Law,  and  were 
also  'reasonably  required.' 

The  collateral  indenture  was  to  provide  "for  the  setting  aside  each 
six  months  and  the  use  for  the  described  improvements  and  additions 
within  three  months  thereafter  of  monies  taken  from  income  equal  to 


CAPITAL  CONTROL  IN  NEW  YORK  91 

the  amount  of  interest  fiinded  which  would  have  accrued  during  the  six 
months  period. "  The  same  restriction  was  also  to  apply  to  any  interest 
fimded  by  the  issue  of  additional  notes.  This  plan  was  never  put  into 
actual  practice  because  of  the  difficulty  of  getting  individual  bondholders 
to  agree  to  it. 


CHAPTER  X 

Amortization 
The  term  amortization  in  the  strict  sense  is  generally  applied  to  the 
setting  aside  of  funds  to  offset  those  items  entering  into  capitalization 
which  represent  no  physical  value.  The  amounts  of  such  items  are,  in 
most  cases,  known  definitely  in  advance,  and  hence,  amortization  can  be 
computed  much  more  definitely  than  in  the  case  of  depreciation,  where 
an  approximate  estimate  is  the  best  that  can  be  done.  It  includes  such 
items  as,  for  instance,  bond  discount,  interest  during  construction  period, 
expenses  of  marketing  securities,  excess  capitalization  and  promoter's 
fees.  The  term  amortization  is,  however,  often  used  in  a  general  way 
to  cover  liquidation  of  loss  upon  physical  value  as  well  as  upon  intangibles. 

Amortization  of  Bond  Discount 
The  New  York  Commissions  have  made  it  a  general  rule  that  bond 
discount  should  be  amortized  within  the  life  of  the  bonds.  This  has  been 
one  of  the  important  reforms  achieved  by  commission  rule  in  New  York 
state.  Not  that  bond  discount  was  not  amortized  in  many  cases  before 
the  advent  of  the  commissions,  but  that  the  latter  made  it  a  fundamental 
rule  and  enforced  it  uniformly.  For  this  reason  we  have  not  made  men- 
tion of  ordinary  cases  of  amortization,  as  it  is  provided  for  in  the  ordinary 
procedure  of  granting  approval.  The  order  form  for  the  First  District 
Commission  is  as  follows: 

Fourth:  That  all  discounts,  conunissions  and  expenses  in  connection  with  the 
approval,  issuance  and  sale  of  the  said  (bonds)  (notes,  etc.)  authorized  to  be  issued 
under  this  order  not  to  exceed  .  .  .  dollars  ($ )  shall  be  amortized  out  of  the  in- 
come of  the  company  before  the  .  .  .  day  of  .  .  .  19 — ,  by  the  payment  of  (a  month- 
ly) (an  annual)  installment,  so  long  as  may  be  necessary,  of  an  amoimt  not  less  than 
.  .  .  ,  such  (monthly)  (annual)  installment  to  begin  .  .  .   "* 

The  report  of  the  Railroad  Securities  Commission  to  President  Taft 
(November  1911)  refers  to  the  subject  as  follows: 

It  seems  to  be  generally  agreed  that  no  limitation  should  be  placed  on  the  price 
at  which  bonds  can  be  sold,  but  any  discount  should  be  cancelled  or  amortized  during 
the  life  of  the  bonds  by  appropriation  each  year  out  of  annual  income  or  surplus  accu- 
mulated after  the  issue  of  the  bonds  of  not  less  than  the  proportional  amount  of  the 
discount.* 

'  Rules  of  Procedure  and  Regulations,  etc.  Public  Service  Commission,  First 
District  N.  Y.,  page  30. 

'See  62nd  Congress — Second  Session  1911  12,  House  Documents,  Vol.  139. 
Docmnent  No.  256.  Report  of  the  Railroad  Securities  Commission.  See  Section  21, 
bottom  of  page  26. 


CAPITAL  CONTROL  IN  NEW  YORK  93 

The  Commissions  have  viewed  bond  discoimt  in  the  nature  of  interest 
paid  in  advance  which  must  be  paid  off  year  by  year  just  the  same  as  the 
regular  interest. 

Little  opposition  to  the  systematic  amortization  of  bond  discount  was 
met  with  on  the  part  of  the  companies,  but  one  example  of  an  attempt  to 
circumvent  the  requirement  is  worthy  of  notice.  This  was  the  apphca- 
tion  of  the  New  York  Railways  Company  to  purchase  stock  of  the 
Twenty- third  Street  Railway  Company  by  the  issue  of  bonds.' 

On  January  1,  1912,  the  New  York  Railways  Company,  which  is  a 
reorganization  of  the  Metropohtan  Street  Railway  Company,  took  over  a 
lease  of  the  23rd  Street  Railway  Company.  By  the  adoption  of  this  lease 
the  rental  payable  thereunder  became  a  charge  upon  the  former.  The 
terms  of  the  lease  provided  for  a  rental  of  18  per  cent  upon  the  par  value 
of  the  company's  capital  stock  which  consisted  of  6,000  shares  of  $100 
par  value,  or  $108,000  per  annum,  and  also  provided  for  organization  ex- 
penses of  the  leased  company,  which  amounted  to  about  $1500  per  year. 
If  this  18  per  cent  had  gone  directly  to  the  23rd  Street  stockholders  as 
dividends,  the  value  of  the  stock,  or  rather  its  capitalization  upon  the 
terms  of  the  lease,  would  have  been  about  360.  This,  however,  was  ren- 
tal paid  to  the  23rd  Street  Railway  Company,  and  such  portion  thereof 
as  was,  in  the  judgment  of  the  directors  of  the  company,  appHcable  to 
the  payment  of  dividends,  was  then  distributed  to  the  stockholders  of  the 
company.  As  a  result,  the  dividends  received  were  considerably  below 
18  per  cent,  due  to  the  fact  that  a  considerable  amount  was  usually  re- 
tained by  the  Company  for  htigation,  franchise-tax  payments,  etc. 
The  actual  market  value  of  the  stock,  based  upon  the  rate  of  return, 
seemed  to  be,  therefore,  from  $250  to  $280  per  share. 

The  New  York  Railways  Company  desired  permission  to  purchase 
the  stock  of  the  23rd  Street  Company.  Of  the  6,000  shares  outstanding 
4,305  could  be  purchased  immediately,  and  the  remainder  from  time 
to  time  as  opportunity  offered.  The  plan  submitted  provided  for  pay- 
ment for  the  stock  in  4  per  cent  bonds  of  the  appHcant,  allowing  bonds 
to  the  amovmt  of  $350.00  for  each  share  ($100  par  value)  of  stock.  This 
plan,  the  apphcant  claimed,  would  save  them  $24,000  per  year  in  rental 
and  $1500  annually  in  expense  of  keeping  up  the  organization  of  the 
leased  company.  Four  per  cent  upon  $350  of  bonds  gives,  of  course,  14 
per  cent,  as  compared  with  the  18  per  cent  under  the  lease,  or  a  saving 
of  $4  per  share,  or,  on  6,000  shares,  $24,000  per  annum.    The  4  per  cent 

'Matter  of  Application  of  the  New  York  Railways  Company,  5  P.S.C.R.,  1st 
Dist.,  N.  Y.,  293.    Opinion  adopted  October  30, 1914. 


94  CAPITAL  CONTROL  IN  NEW  YORK 

bonds  of  the  New  York  Railways  Company  were  selling  in  the  market  for 
from  75  to  80,  and  upon  this  basis,  $350,  par  value,  of  bonds  for  one 
share  of  stock,  would  place  upon  the  stock  a  value  of  from  $260  to  $280. 

Instead  of  issuing  its  bond  at  from  75  to  80  and  using  the  proceeds 
to  purchase  the  stock  at  market  value,  the  appUcant  proposed  to  trade 
$350  of  bonds  for  a  share  of  stock,  and  this  was  the  proposition  to  which 
the  Commission  objected.  For  such  a  plan  would  permit  the  company 
to  avoid  the  amortization  of  the  bond  discount  involved.  The  company 
insisted  that  if  such  amortization  was  required  by  the  Commission,  it 
would  give  up  the  proposed  plan.  On  the  other  hand,  as  the  Commis- 
sion pointed  out,  if  the  bonds  had  been  sold  at  75  to  80  and  the  proceeds 
used  to  purchase  the  stock,  there  would  have  been  no  question  as  to  the 
necessity  for  amortizing  the  20  to  25  per  cent  discoimt  within  the  life 
of  the  bonds,  since  it  was  fundamental  that  under  all  proper  methods  of 
financial  procedure  it  was  incumbent  upon  a  company  to  amortize  dis- 
coimt upon  bonds  during  a  period  not  exceeding  the  hfe  of  the  bonds. 

Besides,  as  the  Commission  pointed  out  in  the  opinion,  "  the  establish- 
ment of  an  amortization  fimd  does  not  deprive  the  company  of  any 
property.  It  is  merely  the  setting  aside  of  a  fund  which  will  be  available 
to  retire  part  of  the  bonds  when  they  become  due. " 

The  defiant  attitude  of  the  company  and  its  threatened  refusal  to 
carry  through  the  piuchase  of  the  stock  if  amortization  were  required, 
was  based  upon  fictitious  reasoning.  It  assimied,  to  quote  from  the 
opinion,  "  that  a  purchaser  has  been  found  who  is  willing  to  pay  $350 
for  a  share  of  stock  having  a  market  value  of  from  $250  to  $280;  that 
persons  have  been  found  who  are  willing  to  sell  stock  for  $265  per  share 
that  is  worth  $350;  and  that  a  purchaser  has  been  found  who  will  pay 
$,1000  for  a  4  per  cent  bond  of  the  New  York  Railways  Company  which 
has  a  market  value  of  from  $750  to  $800.  "*  The  Conmiission  felt  that 
approval  of  such  a  scheme  would  establish  a  precedent  which  could  be  used 
to  overthrow  the  whole  amortization  policy.  If  4  per  cent  bonds  were 
to  be  issued  at  80  to  buy — say,  a  car  costing  $4,800,  the  Commission 
would  permit  a  company  to  issue  the  necessary  $6,000  par  value  of 
bonds,  but  would  require  the  establishment  of  a  fund  which,  with 
accruals,  would  amount  to  the  difference  of  $1,200  by  the  date  of  maturity 
of  the  bonds.  Such  has  been,  and  is  the  settled  policy  of  both  Com- 
missions. 

If  the  application  in  the  present  case  were  allowed,  however,  a  com- 
pany could  come  to  the  Commission  and  say  simply  that  it  proposed  to 

*  See  5  P.S.C.R.,  1st  Dist,  N.  Y.,  bottom  of  page  305. 


CAPITAL  CONTROL  IN  NEW  YORK  95 

buy  a  $4,800  car  with  six  bonds  at  par.  In  other  words,  instead  of 
having  the  bonds  issued  for  cash  they  would  be  exchanged  for  property, 
the  conversion  into  cash  taking  place  between  the  car  manufacturer 
and  a  brokerage  house.  This  part  of  the  transaction  would  not  come 
before  the  Commission  at  all.  As  a  result,  the  car  would  be  capitalized 
at  $6,000  without  the  provision  of  any  fund  to  amortize  the  difference 
between  the  actual  value  of  the  bonds  and  the  par  value  due  at  maturity. 
The  proposition  was  disapproved  and  the  applicant  informed  that  the 
settled  pohcy  of  the  Commission  in  the  matter  of  amortization  must  be 
adhered  to. 

Amortization  of  Property  Subject  to  Reversion 
The  Third  Avenue  Railroad  Company,  in  March  1909,  made  applica- 
tion for  approval  of  the  issue  of  certain  securities  which  were  to  be  based 
on  an  extension  to  its  road  to  be  constructed  imder  a  franchise  just 
granted  by  the  city/  According  to  the  terms  of  this  franchise  the 
grant  might  be  terminated  by  the  city  at  any  time  after  March,  1912, 
subject  to  a  possible  extension  by  the  city  for  two  years  more.  This 
arrangement  would  make  necessary  the  amortization  of  bonds  within 
three  years,  and  would  call  for  the  setting  aside  of  one-third  of  the  cost 
each  year  from  earnings.  The  Commission  held  that  as  in  this  case  the 
extension  was  very  short  (two-thirds  of  a  mile)  in  proportion  to  the 
length  of  the  system  of  which  it  was  a  part,  the  amount  to  be  amortized 
would  not  be  so  large  as  to  create  a  serious  burden  upon  the  system,  but 
that,  if  the  principle  were  to  be  applied  to  a  long  extension  or  a  large 
system,  it  would  be  difficult  for  the  line  to  operate.  The  result  would 
probably  be  high  fares  and  poor  service,  as  the  corporation  would  en- 
deavor to  shift  such  an  imreasonable  burden  to  the  public.  The  applica- 
tion was  granted. 

The  Coney  Island  and  Brooklyn  Railroad  Company  applied  for 
permission  to  issue  bonds  upon  a  property  subject  to  reversion  to  the  city 
under  franchise  provision.^  The  company's  tenure  of  the  property  was 
terminable  upon  three  months'  notice,  and,  in  such  case  no  payment 
need  be  made  by  the  city.  The  Commission  felt  that  under  such  cir- 
cumstances the  cost  of  this  part  of  the  construction  should  not  be  per- 
manently capitalized,  but  should  be  met  out  of  earnings. 

*  Matter  of  Application  of  the  Third  Avenue  Railroad  Company,  1  P.S.C.R., 
1st  Dist.,  N.  Y.,  512.    Opinion  adopted  March  26, 1909. 

*  Matter  of  Application  of  the  Coney  Island  and  Brooklyn  Railroad  Company, 
2  P.S.C.R.,  1st  Dist.,  N.  Y.,  336.    Opinion  adopted  July  29, 1910. 


96  CAPITAL  CONTROL  IN  NEW  YORK 

In  view,  however,  of  the  fact  that  the  company  had  already  put  large 
amounts  of  earnings  into  work  properly  chargeable  to  capital,  bonds  were 
allowed  to  be  issued  upon  condition  that  they  be  paid  off  in  twenty 
years  by  the  sinking  fund  method. 

Similar  requirements  for  the  amortization  of  intangible  assets  and 
assets  whose  value  expired  with  the  expiration  of  a  franchise  were  made 
in  connection  with  the  application  of  the  Third  Avenue  Bridge  Company 
for  authority  to  issue  stock.  This  was  a  case  of  an  original  company. 
It  had  already  obtained  permission  to  issue  $20,000  par  value  of  stock 
upon  the  condition  that  all  proposed  expenditures  must  receive  the 
approval  of  the  Commission  before  being  paid  out  of  the  proceeds  of  the 
securities  authorized.'' 

About  a  month  later  the  Company  presented  a  list  of  proposed 
expenditures  amounting  to  $14,940,  which  were  duly  audited  by  the 
Commission  and  found  to  be  proper  capital  charges.  The  list,  as  pre- 
sented, is  given  herewith.* 

(1)  Organization $395.88 

(2)  Franchise 100.00 

(3)  Other  intangible  street  railway  capital 11,005.90 

(4)  Right  of  way 1,240.62 

(5)  Taxes  during  construction 1,050.00 

(6)  Interest  during  construction 1,048.33 

(7)  Special  deposit  (under  terms  of  franchise) 100.00 

$14,940.73 

None  of  these  items  related  to  any  physical  property,  and  all  but 
(1),  (4),  and  (7)  represented  rights  or  expenses  connected  with  such 
rights  which  would  terminate  in  1934  when  the  franchise  expired.  As 
there  was  no  provision  for  its  renewal,  the  company's  investment  in  these 
rights  would  be  without  value  at  the  termination  of  the  franchise.  Even 
if  the  company  should  obtain  a  renewal  of  the  franchise  or  a  new  fran- 
chise, it  would  be  put  to  new  expense,  and  none  of  the  expenditures 
already  made  in  connection  with  the  present  franchise,  except  for  pro- 
perty owners'  consents,  would  be  of  any  value.  For  example.  Item  (3) 
was  made  up  principally  of  advertisement  of  franchises  and  legal  services 
amounting  to  over  $10,000. 

^  Matter  of  Application  of  the  Third  Avenue  Bridge  Company  for  an  Order 
Authorizing  an  issue  of  $20,000,  par  value,  of  its  capital  stock.  2  P.S.C.R.,  1st  Dist., 
N.  Y.,  779.    Opinion  adopted  December  30,  1911. 

8  Matter  of  Application  of  the  Third  Avenue  Bridge  Company  for  authorization 
of  an  issue  of  stock,  3  P.S.C.R.,  1st  Dist.,  N.  Y.,  209.    Opinion  adopted  March  8, 1912. 


CAPITAL  CONTROL  IN  NEW  YORK  97 

The  Commission  ruled,  therefore,  that  it  was  incumbent  upon  the 
company  to  provide  for  the  amortization  of  all  expenses  relating  directly 
or  indirectly  to  the  franchise  and  other  rights  which  would  cease  to  be  of 
value  when  the  franchise  expired.  The  only  part  of  the  investment 
represented  by  the  above  expenditures  that  would  have  value  after  1934 
would  be  the  company's  certificate  of  incorporation,  the  certificate  of 
convenience  and  necessity,  property  owners'  consents  for  the  present 
route,  and  special  deposit. 

The  items  thus  requiring  amortization  totaled  $13,345.  The  Com- 
mission, accordingly,  attached  to  its  Order  consenting  to  the  withdrawal 
of  the  funds  a  condition  that  the  company  establish  and  maintain  an 
amortization  fund  with  an  annual  contribution  of  at  least  $300  plus  4 
per  cent  upon  prior  contributions  until  the  fund  amoimted  to  the  value 
of  the  assets  which  had  a  limited  term  of  life,  as  given  above.® 

The  Third  Avenue  Bridge  Company  did  not  accept  the  order  and 
about  a  year  later  applied  for  a  re-hearing,  urging  that  the  amortization 
requirement  be  set  aside.^"  At  the  same  time  it  asked  for  permission 
to  give  a  note  to  the  Third  Avenue  Railway  Company  for  approximately 
$93,000  to  cover  monies  advanced  by  the  latter  for  capital  expenditures 
(for  construction  piuposes)  other  than  those  met  out  of  stock  proceeds. 
The  claim  for  setting  aside  of  the  amortization  requirement  was  based 
upon  the  contention  that  a  large  part  of  the  construction,  such  as  switches 
and  short  comiecting  tracks  with  intersecting  fines,  were  of  permanent 
value.  A  further  reinvestigation,  however,  showed  that  all  were  covered 
by  the  terms  of  the  franchise  and  would  revert  to  the  city  at  the  expira- 
tion of  the  franchise  without  any  payment,  and,  accordingly,  the  Com- 
mission held,  the  cost  of  all  property  which  would  revert  to  the  city 
must  be  amortized  prior  to  the  date  of  reversion. 

Practically  all  the  items  of  expenditures  authorized  to  be  paid  from 
the  proceeds  of  the  sale  of  stock,  and  also  the  expenditures  involved  in 

'  The  same  issue  occurred  in  connection  with  the  application  of  the  Third  Avenue 
Railway  Company  to  acquire  certain  shares  of  stock  of  the  Third  Avenue  Bridge  Com- 
pany. The  Commission  approved  the  issue  of  the  stock  by  the  latter  upon  condition 
that  the  cost  of  its  franchise  should  be  amortized  during  the  term  thereof.  The  Bridge 
Company  had  not  as  yet  stated  whether  it  would  comply  with  the  amortization  order. 
The  Commission  held  that  in  view  of  this  there  was  a  question  as  to  whether  the  said 
stock  had  been  legally  issued,  and  if  it  had  been  issued  except  in  compliance  with  the 
order  of  the  Commission,  the  latter  could  not  properly  authorize  its  purchase  by  the 
Third  Avenue  Railway.  Matter  of  Application  of  the  Third  Avenue  Railway  Com- 
pany, 3  P.S.C.R.,  1st  Dist.,  N.  Y.,  327.    Opinion  adopted  June  28,  1912. 

^^  Matter  of  Application  of  the  Third  Avenue  Bridge  Company  for  Authorization 
of  Stock  Issue.  6  P.S.C.R.,  N.  Y.,  189.    Opinion  filed  March  23, 1915. 


98  CAPITAL  CONTROL  IN  NEW  YORK 

the  proposed  note,  related  to  assets  which  would  have  no  value  at  the 
expiration  of  the  franchise,  and  therefore  permission  to  make  the  note, 
as  in  the  case  of  the  stock,  was  based  upon  the  condition  that  appropriate 
arrangements  be  established  and  maintained  for  the  amortization  of 
the  same." 

Amortization  of  Excess  Capitalization 

In  March  1914,  there  was  completed  in  the  First  District  a  case 
involving  the  reduction  of  a  corporation's  fixed  capital  account  to  a  basis 
of  actual  value.  This  case  was  ideal  in  that  it  demonstrated  a  practical 
arrangement  for  wiping  excess  capitalization  off  a  corporation's  books 
in  a  gradual  way. 

The  Brooklyn  Borough  Gas  Company  had  made  apphcation  for 
approval  of  an  issue  of  $125,000  of  additional  capital  stock.^^  The  com- 
pany had  just  completed  a  new  gas  holder  at  a  cost  of  $160,000.  Of  this 
amount  $16,000  had  been  taken  from  the  depreciation  reserve  to  cover 
the  amount  of  replacements  included  in  the  gross  expenditure,  and 
$19,000  from  earnings,  leaving  $125,000  to  be  raised  by  the  sale  of 
additional  stock. 

In  acquiring  its  original  property  in  1898,  the  applicant  had  issued 
bonds  to  the  amount  of  $240,000  and  stock  to  the  amount  of  $500,000. 
The  investment  in  the  property,  however,  according  to  the  Commission's 
opinion,  could  not  have  exceeded  $250,000.  According  to  the  opinion 
"practically  the  whole  issue  of  stock  ($500,000)  represented  a  capitaliza- 
tion of  anticipated  profits,  often  called  the  value  of  franchise." 

The  apphcant  company  had  paid  no  dividend  up  to  December  31, 
1913,  but  had  devoted  all  its  surplus  earnings  to  the  building  up  of  its 
property.  Its  area  of  supply  had  been  developing  rapidly  and  the 
demand  for  extensions  had  been  large.  Additional  capitahzation  to  the 
amount  of  $760,000  had  been  issued.  This  brought  the  bonded  debt 
up  to  $1,000,000  making  the  total  capitalization,  including  a  proposed 
issue  of  $125,000  of  additional  stock,  amount  to  $1,625,000,  as  represented 
by  the  par  value  of  the  securities.  The  fixed  capital  (property  invest- 
ment) account,  as  of  January  1,  1914,  stood  at  $1,773,100. 

The  need  for  a  revision  of  the  company's  fixed  capital  account  first 
appeared  in  connection  with  a  rate  case  in  which  it  was  found  that  the 
capitalization  of    the  company  greatly  exceeded  the  fair  value  of  its 

"  See  Matter  of  Application,  of  the  New  York  Dock  Railway,  4  P.S.C.R.,  1st 
Dist.,  N.  Y.,  94.    Opinion  Adopted  March  28, 1913.    Seepages  101  &  102. 

"Matter  of  Application  of  the  Brooklyn  Borough  Gas  Company,  5  P.S.C.R., 
1st  Dist.,  N.  Y.,  203.    Opinion  adopted  March  13, 1914. 


CAPITAL  CONTROL  IN  NEW  YORK  99 

property.^'  It  was  not  then  necessary  to  fix  the  value,  and  the  exact 
amount  of  the  excess  was  not  ascertained.  In  a  subsequent  case 
brought  two  years  later  the  Commission  found  that  the  fixed  capital 
account  was  about  $450,000  in  excess  of  the  then  fair  value  of  the 
fixed  property.^* 

For  some  time  the  Commission  had  urged  upon  the  company  the 
wisdom  of  a  revision  of  its  fixed  capital  account  and  had  pointed  out  the 
advantages  which  would  accrue  to  the  appHcant  company  in  the  matter 
of  future  financing.  When  the  application  for  additional  stock  had  come 
up  the  matter  was  again  brought  to  the  company's  attention  and  it  had 
agreed  to  a  plan  satisfactory  to  the  Commission. 

The  Commission's  appraisal  of  the  property,  as  of  January  1,  1914, 
had  been  about  $1,500,000  on  a  basis  of  reproduction  new,  and  this,  less 
accrued  depreciation,  amounted  to  $1,344,700.  The  difiference  between 
this  amount  and  the  company's  fixed  capital  account,  $1,773,180,  was 
$428,000,  which  was  represented  largely  by  old  works  which  had  been 
superseded  by  new,  and  which,  therefore,  came  under  the  head  of  replace- 
ments. Concerning  the  status  of  these  old  works,  the  Commission  held 
that  "the  old  works  might  have  been  regarded  as  a  reserve  plant  so  long 
as  the  new  works  were  not  in  complete  and  successful  operation,  but  when 
that  time  arrived  the  old  works  served  no  purpose  other  than  room  for 
storage  of  supplies.  Their  value,  aside  from  the  value  of  the  land,  was 
virtually  nil,  and  the  company  agreed  that  it  was  improper  to  carry  the 
original  cost  of  the  old  plant  as  an  asset." 

The  company  agreed  to  revise  its  asset-accounts  and  write  off  the 
excess  of  capitahzation  over  present  value  by  the  continued  investment  of 
surplus  earnings  in  additional  property.  The  plan  which  was  accepted 
by  both  the  apphcant  company  and  the  Commission  was  as  follows:  of 
the  excess  in  fixed  capital  account  of  $428,428,  there  was  to  be  imme- 
diately charged  off  to  surplus  $178,428.  This  left  $250,000  which  was 
to  be  carried  as  a  suspense  account  on  the  company's  balance  sheet 
under  the  title  of  "Franchise  and  other  intangible  assets  in  process  of 
amortization. "  Each  year  there  were  to  be  reserved  from  earnings  over 
and  above  the  reservation  for  depreciation  5  cents  for  each  thousand 

"  In  the  matter  of  the  Complaint  of  Edward  G.  Baltz  and  others  against  the 
Brooklyn  Borough  Gas  Company  and  in  the  Kings  Coimty  Lightning  Company. 
Also,  Matter  of  the  Rates  Charged  by  the  Brooklyn  Borough  Gas  Company,  etc.,  2 
P.S.C.R.,  1st  Dist.,  N.  Y.,  620.    Opinions  adopted  August  18, 1911. 

'*  Matter  of  the  Hearing  on  the  Motion  of  the  Commission  upon  the  Question  of 
the  Rates  and  charges  of  the  Brooklyn  Borough  Gas  Company,  etc.  4  P.S.C.R.,  1st 
Dist.,  N.  Y.,  328.    Opinion  adopted  July  8, 1913. 


100  CAPITAL  CONTROL  IN  NEW  YORK 

cubic  feet  of  gas  sold,  such  amount  to  be  invested  in  extensions  and 
additions  so  that  in  eight  or  ten  years  an  equaUty  would  have  been 
estabhshed  between  the  actual  value  and  the  nominal  capitahzation  of 
the  company. 

Importance  of  Complete  Record  of  Property  Costs 

An  important  result  of  the  adoption  of  such  a  plan  was  the  obtaining 
of  a  complete  record  of  cost  of  the  company's  property.  In  the  cases  of 
corporations  coming  into  existence  since  the  adoption  of  the  uniform 
system  of  accoimts  prescribed  by  the  Commission,  the  cost  of  all  property 
purchased  with  the  proceeds  of  securities,  other  than  evidences  of  in- 
debtedness for  twelve  months  or  less,  has  been  automatically  recorded. 
Thus,  when  a  car,  engine,  boiler,  gas  main  or  meter  is  retired  from 
service,  the  amount  added  to  the  capital  of  a  corporation  at  the  time  of 
acquisition  can  be  deducted  from  the  fixed  capital  account  and  parity 
preserved  between  property  and  capitalization. 

Where  a  corporation  had  existed  prior  to  the  installation  of  the  uni- 
form system  of  accounts,  there  are,  in  many  cases,  no  itemized  records  of 
the  cost  of  the  different  units  of  property.  Consequently,  when  any  such 
units  are  abandoned,  there  is  always  disagreement  as  to  the  amount  that 
should  properly  be  deducted  from  capital  account.  As  the  majority  of 
corporations  coming  under  the  jurisdiction  of  the  Commissions  had 
existed  prior  to  the  creation  of  the  latter,  the  inadequacy  of  the  cost- 
records,  that  is,  the  retirement-value,  of  the  units  of  a  company's  plant, 
caused  great  difficulty  in  the  regulation  of  capitalization. 

In  the  present  case  one  great  advantage  from  the  point  of  view  of  the 
Commission  was  the  establishment  of  a  permanent  record  of  retirement 
value  of  every  unit  of  the  company's  property,  for,  so  far  as  the  Brooklyn 
Borough  Gas  Company  was  concerned,  the  company  and  the  Commission 
had  agreed  upon  a  detailed  inventory  and  appraisal  of  the  amount  at 
which  each  imit  of  property  stood  in  the  fixed  capital  account.  This 
inventory  could  be  kept  up-to-date  with  a  minimum  of  effort.  By  means 
of  it  a  rate  investigation,  if  one  were  necessary,  could  be  made  very 
quickly.  In  addition,  the  company  would  be  enabled  to  present  to 
banking-houses  and  investors  a  balance-sheet  approved  by  the  Com- 
mission. 

It  should  be  noted  that,  owing  to  the  rate  cases  referred  to,  the  returns 
received  by  the  company  prior  to  this  application  were  based  upon 
the  fair  value  of  the  property.  The  Commission's  plan  for  an  additional 
amortization  fund,  therefore,  came  from  the  company's  legitimate  share 


CAPITAL  CONTROL  IN  NEW  YORK    \   ,  .',*•   I      ]  i''»'l^t', 

in  the  enterprise  and  not  from  any  increase,  direct  or  indirect,  in  the  price 
of  gas.  Thus  it  was  possible  in  this  case  to  eliminate  gradually  the 
excess  capitaUzation  without  placing  any  additional  burden  upon  the  con- 
sumer. This  was  the  first  company  in  the  State  to  adopt  such  a  plan 
voluntarily,  and,  in  the  words  of  the  First  District  Commission,  "to 
realize  that  a  statement  of  assets  based  upon  present  values  of  tangible 
property  and  the  amortization  of  excessive  capitalization  will  attract  in- 
vestors and  stimulate  confidence  in  banking  circles.^ 

Difficulty  of  Fixing  Value  of  Retirements  Without  Cost  Records 
Similar  issues  were  involved  in  the  application  of  the  New  York  Edison 
Company  for  approval  of  an  issue  of  additional  stock  to  the  amount  of 
$15,800,000. i«  The  Consohdated  Gas  Company  owned  all  the  outstand- 
ing stock  of  the  New  York  Edison  Company.  Since  1907  it  had  ad- 
vanced to  the  Edison  Company  upon  promissory  notes  sums  of  money  for 
improvements  and  extensions.  The  expenditures  of  these  funds  for  capi- 
tal purposes  had  been  verified  by  the  engineers  of  the  Commission  to  the 
amount  of  $23,000,000.  During  this  period  retirements  amounting  to 
$4,000,000  had  been  credited  to  capital  account  at  the  cash  cost,  or  where 
that  was  not  obtainable,  at  the  estimated  cost,  leaving  net  additions  of 
$19,000,000. 

The  retirements  of  property  added  to  capital  since  1907  and  retired 
since  that  time  were  found  to  be  correctly  charged  and  credited,  but  a 
question  arose  as  to  an  item  of  $1,745,733  of  retirements  of  property  of  the 
corporation  acquired  prior  to  that  time.  No  record  of  the  actual  amount 
at  which  these  imits  of  property  were  originally  written  into  capital 
could  be  found. 

When  the  Edison  Company  was  reorganized  in  1901,  $9,000,000  par 
value  of  the  stock  of  a  predecessor  company  had  been  taken  over  on  a 
basis  of  $220  per  share,  or  a  total  value  of  $20,240,000.  At  the  same  tune 
the  Edison  Company  had  issued  $45,000,000  of  its  own  stock,  which 
represented  nothing  more  than  'monopoly  value,'  as  Charles  E.  Hughes 
expressed  it  during  the  investigation  of  gas  and  electric  rates  in  New  York 
City  in  1905.  This  represented  an  inflation  of  some  $56,000,000.  The 
records  of  the  company  showed  the  cost  of  capital  installed  since  its  or- 
ganization in  May,  1901,  but  did  not  show  any  detailed  distribution  of 

"  For  a  copy  of  the  order  in  this  case  see  Matter  of  Application  of  the  Brooklyn 
Borough  Gas  Company,  5  P.S.C.R.,  1st  Dist.,  N.  Y.,  203. 

"  Matter  of  Application  of  the  New  York  Edison  Company,  5  P.S.C.R.,  1st  Dist, 
N.  Y.,  132.    Opinions  filed  March  3, 1914. 


*.  i  *  •'i  '•to?**''*: 


CAPITAL  CONTROL  IN  NEW  YORK 


the  items  of  capital  or  even  of  the  groups  installed  by  predecessor  com- 
panies and  taken  over  by  the  Edison  in  1901.  Retirements  of  such  capi- 
tal had  been  written  off  by  the  company  at  their  estimated  cash  cost,  but 
it  seemed  that  this  capital  had  originally  been  put  upon  the  books  of  the 
Edison  Company  at  about  three  times  the  actual  cash  cost.  The  com- 
pany refused  to  give  the  Commission's  representatives  access  to  the  ori- 
ginal books  of  entry  and  refused  to  furnish  them  a  copy  of  the  opening 
entries.  It  did  furnish  a  trial  balance  taken  after  the  opening  entries  of 
May  1,  1901.  A  comparison  of  this  trial  balance  with  the  schedule  of 
physical  assets  acquired  by  the  company  from  predecessor  companies  as 
furnished  to  the  Legislative  Committee  of  1905  showed  that  assets  ag- 
gregating $26,743,666.54  were  taken  into  the  Edison  Company's  account, 
"Plant  and  Property"  at  $81,688,645.60. 

In  other  words,  when  the  books  of  the  newly  organized  Edison  Com- 
pany were  opened,  the  capital  account  was  made  to  balance  the  inflated 
Habilities  then  issued,  irrespective  of  the  original  cost  of  the  property 
acquired.  The  difference  between  the  two  figures  quoted  above  is  prac- 
tically identical  with  the  inflation  produced  by  the  purchase  of  $9,200,000 
par  value  of  stock  at  220,  and  the  issue  of  $45,000,000  of  stock  of  the  new 
company. 

The  books  of  the  company  furnished  no  segregation  of  these  large 
intangible  values,  and  it  was  the  opinion  of  Commissioner  Maltbie  that 
until  they  did,  retirements  of  the  old  capital  should  be  written  off  as 
proportionate  parts  of  this  $81,000,000.  In  this  case  the  retirements  for 
property  installed  prior  to  May  1,  1901,  amounted  to  $1,745,751.95,  or 
6.53  per  cent  of  the  cash  cost  of  all  the  "old  capital."  The  same  pro- 
portion of  the  total  cost  of  this  property  to  the  Edison  Company 
($81,688,445)  would  be  some  $5,334,268,  or  three  times  the  figure  used 
by  the  company  in  writing  off  the  retirements.  Chairman  McCall  in 
approving  the  application,  stated  his  position  as  follows: 

We  do  not  believe  that  the  Commission  has  the  power  to  impose  as  a  condition 
for  authorizing  the  issue  of  securities  for  the  purpose  of  refunding  obligations  in  accord- 
ance with  Section  69  of  the  Public  Service  Commissions  Law,  that  the  applicant 
Company  shall  write  down  its  capital  account  because  of  alleged  capitalization  of 
some  of  its  intangible  assets  in  the  remote  past.'^ 

Of  course,  it  would  make  no  actual  difference  in  the  decision  of  this 
case  whether  said  item  of  retirements  were  charged  off  at  three  times 
the  value  or  not.  Nor  would  it  decrease  the  stockholders  equity  or  take 
any  money  from  them.    It  would  simply  reduce  capital  account  on  one 

"  See  5  P.S.C.R.,  1st  Dist.,  N.  Y.,  bottom  page  136. 


CAPITAL  CONTROL  IN  NEW  YORK  103 

side  and  depreciation  reserve  or  surplus,  as  the  case  might  be,  on  the 
other  side  of  the  balance  sheet,  and  in  the  case  of  surplus  would  make 
that  much  less  available  for  dividends.  As  to  Chairman  McCall's 
statement  just  quoted  above,  to  the  effect  that  the  Commission  did  not 
have  power  to  impose  as  a  condition  of  the  issue  of  securities  for  re- 
funding purposes  the  writing  down  of  the  capital  account  as  outlined, 
and  Commissioner  Maltbie's  contention  that  it  did  have  such  power,  we 
might  say  that  this  is  stiU  a  mooted  question,  and  has  never  been 
tested  before  the  courts. 

The  plan  adopted  in  the  Brooklyn  Borough  case  presents  a  feasible 
method  of  eliminating  excess  capitalization  which  had  originated  before 
the  taking  effect  of  the  Public  Service  Commissions  Law.  On  the  other 
hand,  under  the  method  pursued  in  the  New  York  Edison  case  such  ex- 
cess capitalization  will  never  be  eliminated,  and  a  return  in  perpetuity 
will  have  to  be  paid  upon  it. 


CHAPTER  XI 

Depreciation  and  Replacements 

Depreciation  is  generally  defined  as  a  lessening  in  value  of  physical 
property  due  to  wear  and  tear,  age,  decay,  obsolescence,  and  changes  in 
methods  brought  about  by  new  inventions  and  discoveries.  In  actual 
practice,  however,  well-managed  corporations  meet  wear  and  tear  as  a 
current  operating  expense  under  the  head  of  maintenance.  It  is  hard  to 
draw  the  line  between  maintenance  and  depreciation.  For  instance,  the 
renewal  of  brake-shoes  is  maintenance,  while  the  renewal  of  rails  is 
properly  met  from  depreciation  funds.  It  is  for  this  reason  that  com- 
missions frequently  class  maintenance  and  depreciation  under  a  blanket 
requirement,  as  was  done  by  the  New  York  First  District  Commission 
in  the  case  of  the  reorganized  Third  Avenue  Railway  Company,  and  in 
that  of  the  New  York  Railways  Company,  also  based  upon  a  reorganiza- 
tion.^ Under  this  procedure  the  necessary  requirements  for  maintenance 
are  withdrawn,  and  the  remainder  is  credited  to  the  depreciation  fund. 
The  results  of  depreciation  other  than  that  commonly  classed  as  main- 
tenance must  be  provided  for  by  the  accumulation  of  a  fund.  If  such  a 
fund  is  not  accumulated  the  day  will  come  when  the  corporation  will  be 
faced  with  the  alternatives  of  financing  the  results  of  depreciation,  that 
is,  replacements,  from  the  proceeds  of  additional  capitalization,  or  of 
being  unable  to  function  properly  in  the  public  service.  The  second 
alternative  means  bankruptcy  and  a  reorganization,  and  the  first,  if  it 
be  possible  to  carry  it  out,  is  merely  a  wasteful  postponement  of  the 
second. 

Additional  capital  used  for  replacement  purposes  increases  the  amount 
of  liabilities  without  increasing  the  amount  of  assets  correspondingly, 
and  thereby  produces  excess  capitalization.  On  the  other  hand,  where 
property  is  abandoned,  and  is  not  subsequently  replaced,  the  liabihties 
remain  as  before,  while  the  assets  are  correspondingly  diminished  in 
amount  unless  the  amount  of  property  retired  is  credited  to  the  capital 
account.  Thus  the  capitalization  of  a  corporation  may  be  inflated  either 
by  sins  of  omission,  or  of  commission;  either  by  neglect  to  accumulate 

*  Matter  of  Plan  for  Reorganization  of  the  Metropolitan  Street  Railway  Company, 
3  P.S.C.R.,  1st  Dist.,  N.  Y.,  113.  Opinion  adopted  February  27,  1912.  See  page 
131,  also  152,  (et  seq.)  of  the  opinion. 

See  also  Matter  of  Application  of  Bondholder's  Committee  of  the  Third  Avenue 
Railway  Company,  3  P.S.C.R.,  1st  Dist.,  N.  Y.,  51.  Opinion  adopted  February  3, 
1912.    See  bottom  page  57;  section  3.    Also  pages  58  and  59. 


CAPITAL  CONTROL  IN  NEW  YORK  105 

a  depreciation  fund  and  the  consequent  financing  of  replacements  out  of 
additional  capital,  kaown  as  the  capitalization  of  replacements,  or  by- 
failure  to  credit  retirements. 

Depreciation  and  the  capitalization  of  replacements  cannot  be  con- 
sidered separately.  They  are  like  the  two  sides  of  a  shield;  one  is  the 
cause  and  the  other  the  result.  In  a  depreciated  property  without 
depreciation  funds  to  care  for  it  we  have  the  accomphshed  fact,  while  in 
regularly  setting  aside  funds  for  depreciation  we  are  preparing  to  meet 
the  contingency.  In  the  setting  aside  of  depreciation  funds,  which  we 
could  just  as  properly  call  replacement-funds,  we  have  the  opposite  of 
the  proposition  involved  in  the  capitalization  of  replacements.  And, 
since  it  has  been  decided  that  the  New  York  State  Commissions  do  not 
have  the  power  to  approve  the  issuance  of  securities  for  the  financing  of 
replacements  it  would  seem  to  be  an  illogical  proposition  if  they  lacked 
the  power  to  enforce  the  setting  aside  of  proper  reserves  for  depreciation 
(or  replacements)  if  the  purpose  of  their  creation  was,  as  has  been  said 
by  the  Appellate  Division,^  "to  provide  protection  for  the  investing  and 
travelling  public. "  The  cost  of  replacements  is  operating  expense  just 
as  much  as  is  the  cost  of  wages  or  suppHes.  The  need  for  replacements 
is  inevitable,  and  if  their  financing  cannot  be  met  from  current  income 
or  depreciation  reserve  accumulated  from  income,  additional  capital 
must  be  secured.  In  cases  where  the  emergency  seems  to  justify  it,  the 
New  York  State  Commissions,  imder  the  authority  granted  by  the  Pubhc 
Service  Commissions  Law,  may,  at  their  discretion,  permit  the  issue  of 
bonds  for  that  purpose.  Such  permission,  however,  is  almost  always 
granted  upon  condition  of  rapid  amortization  of  the  bonds  so  issued. 

In  any  case,  the  capitahzation  of  replacements  has  the  effect  of  in- 
creasing liabilities  without  any  corresponding  increase  in  assets.  It  is  a 
practice  which  will  lead  straight  to  financial  suicide  if  indulged  in  to  any 
extent.  To  replace  practically  an  entire  plant  in  this  way,  and  such 
instances  are  by  no  means  rare,  would  be  to  double  capitalization  without 
increasing  power  of  production. 

Depreciation 

A  very  important  part  of  the  work  of  the  New  York  State  Commis- 
sions has  consisted  in  their  efforts  to  make  corporations  realize  the 
iniquity  of  the  capitaHzing  of  replacements,  and  the  necessity  of  setting 

*  People  ex  rel.  New  York  Railways  Co.  vs.  Public  Service  Commission,  181  App. 
Div.  N.  Y.,  338.    Decided  January  18,  1918. 


106  CAPITAL  CONTROL  IN  NEW  YORK 

aside  sufficient  funds  to  meet  depreciation.  In  numerous  cases  involving 
the  levying  of  taxes  the  necessity  of  depreciation  fimds  had  been  empha- 
sized and  supported  by  the  courts  prior  to  the  creation  of  the  PubHc 
Service  Commissions.  It  should  be  borne  in  mind,  however,  that  this 
was  a  lefthanded  kind  of  support,  and  that  the  courts,  in  emphasizing 
the  necessity  of  setting  aside  depreciation  fimds  in  cases  of  contested 
taxes,  were  really  favoring  the  interests  of  the  corporations  involved,  in- 
asmuch as  deductions  from  income  meant  lower  taxes. 

Be  that  as  it  may,  some  of  these  judicial  views  upon  the  necessity  of 
providing  for  depreciation  will  shed  light  upon  the  present  discussion. 
The  Pubhc  Service  Commissions,  of  course,  support  depreciation  as  a 
means  of  protecting  the  original  investment,  thereby  protecting  the 
investing  pubUc  against  loss,  and  the  consuming  pubhc  against  unreason- 
able rates  based  upon  inflated  capitalization,  or  impairment  of  services 
due  to  the  throes  of  reorganization. 

In  a  leading  tax  case  in  the  State  of  New  York  the  Court  of  Appeals 
held  as  follows: 

We  suppose  that  judicial  notice  may  be  taken  of  the  fact  that  in  the  conduct 
of  many  industrial  enterprises  there  is  a  constant  deterioration  of  the  plant  which  is 
not  made  good  by  ordinary  repairs,  which,  of  course,  operates  continually  to  lessen 
the  value  of  the  tangible  property  which  it  afifects.  The  amoimt  of  this  depreciation 
differs  in  different  enterprises,  but  the  annual  rate  is  usually  capable  of  estimate  and 
proof  by  skilled  witnesses.  No  corporation  would  be  regarded  as  weU  conducted 
which  did  not  make  some  provision  for  the  necessity  of  ultimately  replacing  the 
property  thus  suffering  deterioration.' 

When  the  same  case  was  before  the  Appelate  Division  of  the  Supreme 
Court,  the  latter  had  held  that 

the  net  income  of  a  corporation  for  dividend  purposes  cannot  be  determined  imtil 
all  taxes,  depreciation,  maintenance  and  up-keep  expenditures  have  been  deducted. 
Otherwise  the  dividend  is  not  paid  from  the  earnings  but  by  a  depreciation  of  the 
capital  account.  To  earn  a  dividend  and  be  honest  with  itself,  its  stockholders,  its 
creditors  and  the  public  it  has  to  serve,  a  corporation  cannot  distribute  earnings  at  the 
•jxpense  of  its  capital.* 

In  another  case  before  the  Appellate  Division  it  was  held  that: 

The  annual  ordinary  expenditures  for  repairs,  replacements  and  renewals  upon 
such  a  property  cannot  be  assimied  to  make  it  unnecessary  to  provide  a  fund  which 

'People  ex  rel.  Jamaica  Water  Supply  Company  vs.  Tax  Commissioners,  196 
N.  Y.  39.     Decided  October  19,  1909.    See  pages  57,  58. 

*  Same  before  Supreme  Court,  128  App.  Div.,  13.  Decided  September  17,  1908. 
See  pages  17,  18. 


CAPITAL  CONTROL  IN  NEW  YORK  107 

will  replace  its  engines,  electrical  equipment  and  other  physical  property  which  at 
some  time  must  be  replaced.* 

The  attitude  of  the  United  States  Supreme  Court  in  the  Knoxville 
Water  case  supports  the  same  principle  and  is  quoted  from  as  follows: 

It  (the  company)  is  entitled  to  see  that  from  earnings  the  value  of  the  property 
invested  is  kept  imimpaired  so  that  at  the  end  of  any  given  term  of  years  the  original 
investment  remains  as  it  was  at  the  beginning.  It  is  not  only  the  right  of  the  com- 
pany to  make  such  a  provision,  but  it  is  its  duty  to  its  bond  and  stockholders,  and,  in 
the  case  of  a  public  service  corporation  at  least,  its  plain  duty  to  the  public.  If  a 
different  course  were  pursued,  the  only  method  of  providing  for  replacement  of  property 
which  has  ceased  to  be  useful  would  be  the  investment  of  new  capital  and  the  issue  of 
new  bonds  or  stocks.  This  course  would  lead  to  a  constantly  increasing  variance 
between  present  value  and  bond  and  stock  capitalization — a  tendency  which  would 
inevitably  lead  to  disaster  either  to  the  stockholders  or  to  the  public  or  to  both.  If, 
however,  a  company  fails  to  perform  this  plain  duty  and  to  exact  sufficient  returns 
to  keep  the  investment  unimpaired,  whether  this  is  the  result  of  unwarranted  dividends 
upon  over  issues  of  securities,  or  of  omission  to  exact  proper  prices  for  the  output, 
the  fault  is  its  own.* 

In  the  Binghamton  case^  the  Court  of  Appeals  held  that  even  without 
the  specific  reference  to  capitalization  of  replacements  contained  in  the 
1910  amendment  to  the  Public  Service  Commissions  Law  it  was  the 
duty  of  the  Commission  "to  determine  whether  the  stock  and  bonds 
proposed  by  the  relator  were  to  secure  money  to  pay  floating  indebtedness 
incurred  in  the  ordinary  running  expenses  of  the  corporation. " 

In  the  Delaware  and  Hudson  case  the  court  had  charged  the  Com- 
mission with  substituting  its  judgment  for  that  of  the  directors  in  the 
management  of  the  affairs  of  the  applicant  corporation,  but  the  deter- 
mination of  the  nature  of  the  expenditure  above  referred  to,  the  Court 
declared,  would  not  constitute  such  a  substitution  of  judgment  upon  the 
part  of  the  Commissions.    To  quote  from  the  decision: 

at  least  if  the  directors  of  the  company  had  wholly  and  intentionally  ignored  the 
self-evident  proposition  that  except  for  special  and  extraordinary  circumstances  some 
part  of  the  expenses  of  renewing  machines  and  plant  originally  charged  to  capital 
account  must  be  paid  as  a  part  of  the  operating  expenses  of  a  corp>oration  from  year 
to  year.  We  refer  to  the  necessity  of  a  corporation  providing  for  some  part  of  the 
expenses  of  renewing  machinery  and  plant  from  year  to  year  as  self-evident,  because 
it  has  been  so  considered  and  expressed  by  the  courts  in  many  cases.' 

*  People  ex  rel.  Third  Avenue  R.  R.  Co.  vs.  Tax  Commissioners,  136  App.  Div. 
155.     Decided  December  30,  1909.    See  page  159. 

»  City  of  Knoxville  v.  Knoxville  Water  Co.,  212  U.  S.  1.    Decided  January  4, 1909. 

'  People  ex  rel  Binghamton  Light,  Heat  and  Power  Co.  vs.  Stevens,  203  N.  Y.,  7. 
Decided  October  3,  1911. 

'  People  ex  rel.  the  Delaware  and  Hudson  Co.  vs.  Stevens,  197  N.  Y.  1.  Decided 
December  7.  1909. 


108  CAPITAL  CONTROL  IN  NEW  YORK 

During  the  early  years  of  the  Commissions  instances  of  neglect  of 
depreciation  were  by  no  means  rare.  In  the  case  of  the  application  of 
the  Kings  County  Lighting  Company  for  authorization  of  an  issue  of 
bonds,  an  investigation  of  the  afifairs  of  the  company  by  the  First  District 
Commission  showed  that  while  earnings  had  been  used  to  enlarge  the 
plant,  they  had  not  been  so  used  to  any  extent.^  On  the  other  hand,  no 
depreciation  reserve  had  been  set  aside  prior  to  January  first  of  the  year 
under  consideration,  when  such  a  fund  had  been  started  by  order  of  the 
Commission. 

It  was  essential,  the  Commission  ruled,  that  the  company  henceforth 
use  its  earnings  to  build  up  its  plant,  or  accumulate  a  fund  for  so  doing, 
before  the  payment  of  any  dividends. 

In  a  rate  case  against  the  Coney  Island  and  Brooklyn  Railroad  Com- 
pany, the  Commission  took  occasion  to  point  out  that  for  a  number  of 
years  the  company  had  been  accustomed  to  distribute  all  its  surplus 
earnings  in  dividends,  while  no  provision  had  been  made  for  depreciation, 
and  appropriations  for  maintenance  had  been  very  inadequate.^" 

In  view  of  the  need  for  rehabihtating  the  road,  it  would  not  reduce 
fares,  but  would,  on  the  other  hand,  see  that  necessary  replacements 
were  paid  for  out  of  earnings  before  dividends  were  considered.  The 
position  was  taken  that  no  calculation  of  the  cost  of  service  of  a  pubUc 
utility  is  satisfactory  which  omits  proper  charges  for  deterioration  of  the 
physical  property.  Allowance  must  be  made  for  wear  and  tear  that  is 
not  currently  repairable,  and  for  growing  inadequacy  of  equipment  which 
has  to  be  replaced  before  it  is  worn  out. 

Replacements 

In  connection  with  an  application  of  the  Staten  Island  Midland  Rail- 
way Company  for  permission  to  issue  equipment  trust  certificates  for 
the  purchase  of  new  cars  which  were  badly  needed  to  replace  old  ones, 
the  question  arose  as  to  how  much  of  the  proposed  expenditures  would 
represent  capital  and  how  much  should  properly  be  charged  to  replace- 
ments." 

An  investigation  of  the  applicant's  equipment  by  the  engineers  of 
the  Commission  showed  that  twenty  of  its  cars  were  so  far  worn  out  that 

» Matter  of  Application  of  the  Kings  County  Lighting  Company,  1  P.S.C.R.,  1st 
Dist.,  N.  Y.  700.    Opinions  adopted  July  2,  1909. 

*»  Matter  of  Complaints  against  the  Coney  Island  and  Brooklyn  Railroad  Com- 
pany, 1  P.S.C.R.,  1st  Dist.,  N.  Y.,  705.    Opinion  adopted  July  2,  1909. 

"Matter  of  Application  of  the  Staten  Island  Midland  Railway  Company,  5 
P.S.C.R.,  1st  Dist.,  N.  Y.,  345.    Opinion  adopted  December  22,  1914. 


CAPITAL  CONTROL  IN  NEW  YORK  109 

it  was  unsafe  to  use  them,  and  that  it  would  not  pay  to  repair  them.  The 
proposed  new  cars  were  to  cost  $172,000,  of  which  $135,000  was  to  be  met 
by  the  issue  of  a  Uke  amount  of  equipment  trust  certificates,  and  the 
remaining  $37,000  by  cash  paid  out  of  income.  The  old  cars  were  charged 
upon  the  books  at  $63,680.  This  amount,  therefore,  less  the  $37,000 
cash  proposed  to  be  paid  from  income,  left  $26,680  as  the  replacement 
charge  to  be  written  off  the  capital  account,  or  else  paid  out  of  current 
income  as  rapidly  as  possible. 

About  a  month  later  the  applicant  asked  for  a  rehearing  in  order  to 
present  proof  that  the  old  cars  mentioned  above  could  be  repaired,  put 
into  good  operating  condition,  and  used.  The  rehearing  was  granted, 
and  the  engineering  staff  of  the  Commission  also  offered  evidence  showing 
which  twenty  of  the  cars  of  the  company  it  was  that  were  in  such  bad 
condition,  and  identified  them  by  number  and  a  description  of  the 
electrical  equipment  of  each  car.^  As  a  result  the  Commission  amended 
its  previous  order  so  as  to  certify  that  the  proposed  expenditure  out  of 
the  proceeds  of  the  $135,000  of  equipment  trust  certificates  was  reason- 
ably chargeable  to  capital,  and  so  as  to  authorize  the  issuance  of  the 
certificates  upon  condition  that,  if  the  apphcant  did  not  overhaul  and  put 
into  first-class,  serviceable,  operating  condition  certain  of  its  cars  by  a 
specified  date  (this  date  allowing  about  five  months),  then  there  should 
be  deducted  from  the  capital  charge  authorized  by  reason  of  the  acquisi- 
tion of  the  additional  cars  an  amount  equal  to  the  book-value  less  the 
selling  price  or  scrap-value,  as  the  case  might  be,  of  the  cars  which  it  was 
proposed  to  overhaul.  The  elasticity  of  this  arrangement  permitted  the 
corporation  to  make  the  most  of  its  old  cars  without  in  any  way  tying 
the  hands  of  the  Commission  in  the  matter  of  preventing  the  capitaliza- 
tion of  replacements. 

An  apphcation  of  the  New  York  Railways  Company  involved  similar 
conditions.^^  The  company  applied  for  permission  to  issue  its  4  per  cent 
bonds  under  an  existing  mortgage  to  an  amount  sufficient  to  provide 
$1,600,000  to  be  used  for  the  acquisition  of  175  new  stepless  cars  at 
approximately  $6,000  per  car,  and  $550,000  for  the  reconstruction  of  the 
54th  Street  car  bam. 

These  175  new  cars  were  not  to  constitute  additional  equipment,  but 
for  each  new  car  purchased  an  old  one  was  to  be  retired  from  service, 

^*  Matter  of  Rehearing  upon  the  Application  of  the  Staten  Island  Midland  Rail- 
way Company,  6  P.S.C.R.,  1st  Dist.,  N.Y.,  1.    Opinion  Adopted  January  22,  1915. 

"  Matter  of  Application  of  New  York  Railways  Company,  3  P.S.C.R.,  1st  Dist., 
N.  Y.,  397.    Opinion  adopted  November  1,  1912. 


110  CAPITAL  CONTROL  IN  NEW  YORK 

SO  that  when  all  the  new  cars  had  been  installed  the  number  of  cars  in 
use  would  be  the  same  as  before.  When  the  proposal  was  criticised  the 
company  claimed  that  they  should  be  allowed  to  capitalize  at  least  the 
difference  between  the  cost  of  the  new  cars  and  the  present  value  of  the 
old  ones.  The  value  of  the  latter  was  estimated  by  the  company  at  from 
$250  to  $1,000  per  car,  depending  upon  the  market  which  could  be  found 
for  them.  Upon  an  average  value  of  $600  the  company  would  be  capi- 
talizing $5,400  for  each  new  car,  resulting  in  the  financing  of  replacements 
by  new  capital  issues. 

The  New  York  Railways  Company,  the  appHcant,  was  a  reorganiza- 
tion of  the  Metropolitan  system,  and  it  now  sought  to  justify  this  alleged 
capitahzation  of  replacements  by  claiming  that,  in  acquiring  its  system, 
it  had  purchased  the  property  at  its  present  value,  and  that  the  appli- 
cant's capitahzation  represented  present  value  and  not  original  cost. 
Hence,  it  would  be  proper  to  credit  capital  account  with  the  present 
value  of  the  old  cars  ($250  to  $1,000)  and  charge  capital  account  with 
the  entire  cost  of  the  new  car,  $6,000. 

The  objection  to  this  argument  was  the  finding  of  the  Commission 
in  the  reorganization  proceedings  to  the  effect  that  the  capitahzation  of 
the  said  New  York  Railways  Company  exceeded  the  value  of  the  pro- 
perty by  at  least  $16,500,000.^*  In  this  case  (the  reorganization),  the 
expert  witness  of  the  Bondholder's  Committee  had  claimed  that  value 
was  equivalent  to  cost  to  reproduce-new,  and  that  the  value  of  the  old 
cars  now  to  be  removed  was  over  $3,700  per  car.  This  estimate  was 
part  of  the  evidence  upon  which  the  Bondholder's  Committee  had 
justified  the  capitalization  of  the  new  company  (the  present  apphcant). 
In  the  same  proceedings  the  Commission's  engineer  had  submitted  an 
estimate  of  $822  per  car.  If  a  value  of  say,  in  round  numbers,  $800 
had  been  accepted  in  the  reorganization  as  the  capitalization-value  of  the 
old  cars,  the  company  could  have  properly  been  allowed  to  capitalize 
the  difference  between  the  cost  of  the  new  car  ($6,000)  and  the  capitalized 
value  ($800)  of  the  old,  a  difference  of  $5,200,  and  such  an  addition  to 
capital  would  have  been  reoresented  by  actual  property. 

In  the  Brooklyn  Union  Gas  case,  previously  discussedj'^the  Commis- 
sion had  pointed  out  that  one  of  the  great  advantages  of  the  plan  adopted 
by  the  company  was  the  complete  inventorying  of  each  item  of  the  pro- 
perty.   This  was  of  especial  importance  when  old  property  or  equipment 

"Matter  of  the  Plan  for  Reorganization  of  the  MetropoHtan  Street  Railway- 
Company,  3  P.S.C.R.,  1st  Dist.,  N.  Y.,  113.  Opinion  adopted  February  27,  1912. 
See  page  181. 


CAPITAL  CONTROL  IN  NEW  YORK  111 

was  to  be  retired,  and  this  ideal  condition  was  compared  with  the  lack 
of  detailed  information  existing  in  the  accounts  of  most  corporations, 
and  the  resultant  differences  of  opinion  between  the  Commission  and  the 
corporation  when  old  property  was  retired.  Of  the  lack  of  any  such 
detailed  inventory  the  books  of  the  present  apphcant  formed  a  good 
example,  as  its  property  and  equipment  was  represented  upon  its  books 
by  a  lump  sum  entry  of  $74,384,737.10.  The  cars  in  question  were  not 
carried  at  any  specific  amount;  they  were  lost  in  the  one  entry  of  over 
$74,000,000.  Logically,  if  the  apphcant  wished  to  continue  the  plan  for 
which  it  sought  approval  in  this  case,  that  is,  the  capitalization  of  re- 
placements at  the  difference  between  the  present,  actual  value  of  the  old 
and  the  cost  of  the  new,  the  first  step  would  be  a  detailed  distribution 
of  this  item  of  over  $74,000,000  into  the  various  classes  of  property  which 
it  owned,  at  their  value.  The  suggestion  was  incidentally  thrown  out 
by  the  Commission  that  such  an  attempt,  in  view  of  the  excess  of  capi- 
tahzation  over  value,  would  involve  many  difficulties,  and  would  prob- 
ably leave  a  large  balance  which  would  have  to  be  charged  to  some  such 
account  as  "Other  Intangible  Street  Railway  Capital,"  representing 
such  items  as  franchises,  "good  will,"  and  "going  concern." 

One  argument  advanced  by  the  apphcant  was  to  the  effect  that  the 
old  cars  were  still  capable  of  much  service  and  that  the  company  was 
justified  in  retiring  them  only  in  an  effort  to  improve  the  quahty  of 
service  rendered  to  the  public;  hence  such  improvement  should  be  paid 
for  by  the  pubhc  by  the  issue  of  bonds;  and,  further,  that  the  payment 
of  interest  on  the  company's  income  bonds  should  not  be  interfered  with 
by  a  requirement  that  replacements  be  paid  out  of  earnings  and  not  out 
of  capital. 

Such  an  argument,  the  Commission  felt,  would  apply  to  all  replace- 
ment and  maintenance  charges.  It  would  apply  to  the  whole  system; 
and  when  one  cycle  of  replacements  had  been  completed,  the  company 
would  have  only  one  plant,  but  would  owe  for  two — the  one  which  had 
disappeared  and  the  one  which  existed,  and  the  balance  sheet  would 
indicate  that  the  company  owned  twice  the  property  which  it  actually 
did  own.  Logically,  the  process  would  not  stop  with  one  cycle,  and 
"bond  issue  may  be  piled  upon  bond  issue  without  a  corresponding 
increase  in  its  property. " 

In  the  words  of  the  opinion: 

The  end  of  such  financiermg  may  be  easily  imagined,  but  it  need  not  be  left  to  the 
imagination.  The  results  are  too  well  known  from  the  experience  through  which  the 
street  railway  lines  in  Manhattan  have  just  passed.    They  were  bad  service,  dilapi- 


112  CAPITAL  CONTROL  IN  NEW  YORK 

dated  plant  and  equipment,  high  operating  expenses,  judgments,  receiverships,  fore- 
closure, heavy  assessments  or  loss  of  property,  stockholders  closed  out,  bonds  paid  off 
below  par  value,  all  corporations  brought  under  suspicion,  capital  for  legitimate  enter- 
prises obtained  with  difl&culty,  etc.  Yet  the  very  corporation  which  was  reared  upon 
the  ruins  of  the  Metropolitan  system  now  comes  before  the  Commission  and  asks  that 
we  fix  the  stamp  of  our  approval  upon  the  very  practice  which  caused  or  aided  the 
disruption  of  the  Metropolitan  system.  It  was  to  be  supposed  that  something  had 
been  learned  from  experience.  The  capitalization  of  operating  charges  must  stop 
and  replacements  are  operating  charges." 

The  company  also  urged  that,  because  it  had  no  funds  with  which  to 
pay  the  cost  of  replacing  these  old  cars,  the  taking  of  the  necessary  funds 
from  earnings  would  prevent  the  payment  of  interest  on  the  income  bonds, 
and  that  this  should  not  be  interfered  with.  If  interest  could  not  be 
paid  upon  the  bonds  without  capitalizing  replacements,  the  blame  lay, 
they  argued,  not  with  the  Commission  or  the  pubhc,  but  with  those  who 
made  the  reorganization  necessary. 

The  Commission  pointed  out,  in  reply  to  this,  that  the  plan  of  re- 
organization had  not  been  approved  by  it,  and  had  been  carried  through 
regardless  of  its  finding  that  the  proposed  capitahzation  was  far  in  excess 
of  the  value  of  the  property,  and  that  probably  earnings  would  not  meet 
operating  charges,  interest  on  first  mortgage  bonds,  and  the  five  per  cent 
on  income  bonds.  Hence,  it  was  held,  if  the  company,  in  spite  of  the 
warning  of  the  Commission,  had  issued  bonds  upon  which  it  could  not 
truthfully  earn  interest,  it  must  accept  the  consequences.  In  any  case, 
the  Commission  held,  the  company  could  not  legally  pay  interest  on 
income  bonds  until  it  had  provided  for  replacements.  The  Commission 
had  taken  the  position  from  the  beginning,  it  stated,  that  capital  must 
be  kept  intact  out  of  earnings,  and  that  provision  must  be  made  for 
depreciation  and  the  ultimate  replacement  of  all  wasting  assets. 

As  a  matter  of  fact,  the  company  for  its  first  six  months  of  operation 
after  the  reorganization  had  declared  as  earned  and  payable  on  income 
bonds  interest  to  the  amount  of  7.71  per  cent,  as  compared  with  the 
5  per  cent  stipulated  in  the  bonds.  The  company,  therefore,  the  Com- 
mission pointed  out,  could  not  plead  poverty  as  a  reason  for  the  approval 
of  a  bond-issue  when  it  was  paying  out  to  holders  of  income-bonds  money 
which  it  should  have  retained  for  the  purposes  covered  in  the  apphcation. 
*'The  Commission,"  the  opinion  held,  "had  no  legal  power  to  authorize 
the  issue  of  bonds  for  replacements." 

"  Matter  of  Application  of  New  York  Railways  Company,  3  P.S.C.R.,  1st  Dist., 
N.  Y.,  397.    See  page  407. 


CAPITAL  CONTROL  IN  NEW  YORK  113 

This  principle  was  specifically  upheld  by  the  New  York  State  Court 
of  Appeals  in  the  Bingham  ton  case,  which  is  discussed  later. 

In  regard  to  the  carrying  through  of  the  reorganization  plan  of  the 
Metropolitan  Company  in  spite  of  the  disapproval  of  the  Commission, 
it  should  be  explained  that  between  the  handing  down  of  the  decision 
of  the  Court  of  Appeals  in  the  Third  Avenue  case  and  the  amendment  of 
the  reorganization  section  of  the  Public  Service  Commissions  Law  in 
1912,  there  was  a  period  of  a  year  or  more  during  which  the  New  York 
State  Commissions  felt  compelled,  in  reorganization  cases,  to  give  official 
sanction  to  reorganization  plans  presented  by  apphcant  corporations  or 
bondholders'  committees  which  were  in  excess  of  the  value  of  the  pro- 
perty involved.  The  reorganization  of  the  MetropoHtan  Company  came 
before  the  First  District  Commission  during  this  period.  The  issue  of 
bonds  for  the  purchase  of  new  cars  would  have  been  denied  in  whole, 
except  for  one  factor,  and  that  was  that  the  new  cars  were  of  greater 
capacity  and  would  cost  much  more  than  the  cars  to  be  replaced  had 
cost  originally. 

Hence,  the  Commission  proceeded  upon  the  basis  that  the  cost  of  the 
new  cars,  to  the  extent  of  these  two  factors,  would  not  be  a  replacement. 
In  this  connection  the  Commission  enumerated  three  standards  by  which 
to  determine  the  amount  which  might  be  capitalized  under  such  con- 
ditions, as  follows: 

1.  Estimated  cost-to-reproduce-new  of  the  old  cars  as  compared  with  the  new. 

2.  Relative  capacity. 

3.  Relative  cost. 

In  the  Reorganization  case,  referred  to  above,  the  cost-to-reproduce-new 
of  these  cars  had  been  estimated  by  the  company  at  $3,768,  and  by  the 
Commission  at  $3,376.  As  the  capitalization  was  based  upon  the  com- 
pany's estimates,  this  would  leave  not  more  than  $2,232  to  be  capitalized 
upon  a  $6,000  car. 

As  to  relative  capacity,  the  old  car  seated  28  persons — the  new  car,  51. 
As  standing  room  was  practically  the  same,  this  gave  a  ratio  of  28  to  51, 
leaving  23/51  of  $6,000,  or  $2,706,  which  could  properly  be  capitahzed. 

The  third  standard  would  be  ideal  when  accounts  had  been  kept  cor- 
rectly and  showed  actual  original  cost.  In  this  case  no  complete  cost 
records  existed,  and  such  as  there  were  showed  a  partial  cost  of  $2,398. 
Upon  these  partial  records  it  was  estimated  that  each  car  had  cost  from 
$3,100  to  $3,200,  leaving,  on  a  basis  of  $6,000  for  the  new  cars,  $2,800  or 
$2,900  to  be  capitahzed.  Replacements,  betterments,  retirements  and 
depreciation  as  relating  to  street  railways  were  fully  treated  in  the  uni- 


114  CAPITAL  CONTROL  IN  NEW  YORK 

form  system  of  accounts  prescribed  in  1908,  and  in  accordance  with  these 
provisions,  and  the  circumstances  outlined  above,  it  was  decided  to  permit 
the  capitalization  of  $2,800  per  car  on  a  basis  of  $6,000  cost  per  car  for 
the  new  cars.  It  should  be  stated  that  the  relative  seating  capacities  of 
the  old  and  new  cars  was  used  as  one  test  only  because  of  the  lack  of 
data.     Cost  should  be  the  real  test  wherever  possible. 

The  remainder  of  the  amount  apphed  for  in  this  case  it  was  proposed 
to  devote  to  the  reconstruction  of  a  car-bam.  This  latter  work  was 
expected  to  cost  $550,000  and  consisted  in  the  addition  of  two  stories 
and  a  new  roof.  The  company  also  owned  a  block  of  property  used  for 
the  storage  of  cars.  These  premises  the  company  had  arranged  to  sell 
for  $1,750,000  of  which  $50,000  bad  been  paid.  The  sale,  however,  was 
not  consummated  as  yet.  The  property  was  subject  to  a  mortgage  of 
$950,000,  leaving  $800,000  available  if  the  transaction  was  completed. 
It  was  felt  by  the  Commission  that  the  sale  of  the  property  and  the 
reconstruction  of  the  car-bam  were  closely  related,  as  the  addition  of  the 
floors  to  the  bam  would  take  the  place  of  the  storage  facilities  of  the 
property  to  be  sold,  and  the  one  would  be  a  replacement  of  the  other  and 
therefore,  could  not  properly  be  capitalized. 

The  New  York  Railways  Company  soon  after  apphed  for  and  was 
granted  a  rehearing  upon  the  order  as  it  affected  the  issue  of  bonds  for 
new  cars.^^  The  apphcant  company  failed,  however,  to  produce  any 
additional  arguments  to  support  its  previous  contentions.^^ 

"Matter  of  Rehearing  of  Application  of  New  York  Railways  Company  for 
Authority  to  Issue  Bonds,  5  P.S.C.R.,  1st  Dist.,  N.  Y.,  92.  Opinion  adopted  February 
6,  1914. 

"  In  the  interval  between  these  two  hearings  there  had  been  rendered  a  decision 
by  the  United  States  Supreme  Court  which  seemed  to  fit  the  case  under  consideration. 
This  was  the  decision  in  Kansas  City  Southern  Railway  Co.  vs.  United  States  et  al., 
decided  December  1,  1913,  (231  U.  S.  423). 

The  Commission,  in  its  opinion  relative  to  the  rehearing  which  it  had  granted, 
quoted  at  length  from  this  decision.  It  seemed  that  the  Kansas  City  Southern  had 
desired  to  reduce  certain  grades  in  its  lines,  and  thought  it  best  to  do  this  by  building 
tracks  off  from  the  original  Une  in  some  instances,  the  corresponding  sections  of  old 
track  being  abandoned  upon  completion  of  the  new.  The  full  cost  of  this  new  con- 
struction it  sought  to  charge  to  the  accoimt  of  "Additions  and  Betterments,"  a  sub- 
division of  its  capital  account.  Under  the  requirements  of  the  uniform  system  of 
accounts  prescribed  by  the  Interstate  Commerce  Commission,  however,  when  im- 
provements or  betterments  involved  the  abandonment  of  tracks  which  were  already 
charged  to  capital  account,  the  cost  of  "replacing  in  kind"  the  abandoned  or  replaced 
tracks  must  be  charged  to  operating  expenses,  so  that  nothing  more  than  the  element 
of  betterment  should  be  added  to  capital  account.    Thus,  for  instance,  if  an  80-lb. 


CAPITAL  CONTROL  IN  NEW  YORK  115 

A  Uniform  System  of  Accounts  Can  Permit  of  No  Exceptions 
As  discussed  under  "Refunding  and  Reorganization,"  the  Commis- 
sion found,  at  the  time  of  the  Metropohtan  reorganization,  that  the 
proposed  capitalization  exceeded  the  value  of  the  property  by  at  least 
$16,500,000.  Being  compelled  under  the  circumstances  to  give  its 
consent,  it  included  a  requirement  to  the  effect  that  the  said  excess  should 
be  amortized.  It  later  became  doubtful  of  its  authority  to  enforce  such 
a  provision  and  withdrew  it. 

The  present  apphcant,  being  the  reorganized  Metropolitan  Company, 
contended  that  the  refusal  of  the  Commission  to  permit  it  to  capitalize 
substantially  the  entire  cost  of  the  new  cars  was  tantamount  to  a  rein- 
statement of  the  amortization  order  which  had  been  withdrawn.  The 
Commission  pointed  out,  however,  that  the  amortization  order  had 
required  the  company  to  provide  for  the  difference  between  the  then 
value  of  the  property  and  the  amount  of  capitalization,  while  the  order 
in  the  present  case  simply  required  the  company,  when  imits  of  property 
were  retired  from  service,  to  provide  for  the  difference  between  the 
selling-price  or  scrap-value  and  the  amount  at  which  the  property  stood 
upon  the  books  of  the  company  by  other  means  than  by  the  use  of  addi- 
tional capital,  as  such  would  constitute  capitalization  of  replacements. 
The  Commission  stated  that  because  it  was  without  power  to  make  this 
general  amortization  order  at  the  time  of  the  reorganization  of  the 

rail  were  substituted  for  a  60-lb.  rail,  the  estimated  cost  of  installing  the  latter  should 
be  charged  to  operating  expense  and  only  the  additional  cost  of  the  heavier  rail  charged 
to  capital  account.  The  company  regarded  this  requirement  as  unreasonable  and 
illegal,  but  the  Supreme  Court  upheld  the  power  of  the  Commission  to  make  such  a 
ruling  and  the  reasonableness  of  such  a  requirement. 

"The  contention  of  the  applicant,"  the  United  States  Supreme  Court  had  held, 
"  that  property,  originally  acquired  because  necessary  in  the  construction  of  the  road 
and  development  of  the  property  and  afterwards  abandoned  only  because  rendered 
uimecessary  by  the  improvements  should  remain  in  the  property  account  as  a  part  of 
the  stockholders'  investment,  wiU  be  found,  upon  analysis,  to  rest  upon  the  unwarrant- 
able assumption  that  all  capital  expenditures  result  in  permanent  accretions  to  the 
property  of  the  company.  This  in  effect  ignores  depreciation — an  inevitable  fact  which 
no  system  of  accoimts  can  properly  ignore.  A  more  complete  depreciation  than  that 
which  is  represented  by  a  part  of  the  original  plant  that  through  destruction  or  obso- 
lescence has  actually  perished  as  useful  property,  it  would  be  diflScult  to  imagine." 

As  the  regulations  covered  by  this  decision  were  identical  with  those  contained 
in  the  uniform  system  of  accounts  adopted  by  the  New  York  First  District  Commission 
in  1908,  and  as  the  regulations  appUed  to  the  case  in  hand  and  were  the  ones  criticised 
by  the  present  appUcant  company,  the  Supreme  Coxirt  decision  above  quoted  seemed 
to  leave  no  excuse  for  altering  the  previous  finding  of  the  Commission  in  this  case. 


116  CAPITAL  CONTROL  IN  NEW  YORK 

Metropolitan  Company,  it  did  not  follow  that  it  lacked  power  to  make 
ordinary  amortization  requirements. 

The  general  amortization  order  issued  at  the  time  of  the  reorganiza- 
tion, the  Commission  held,  had  been  made  under  a  mistaken  idea  of  the 
Commission's  power  to  limit  the  amount  of  capital  in  a  reorganization 
case  as  the  law  then  existed,  while  the  amortization  requirements  in- 
sisted upon  in  the  present  case  as  to  car-replacements  were  authorized 
under  the  provisions  of  the  Pubhc  Service  Commissions  Law  which  gave 
the  Commissions  power  to  prescribe  a  uniform  system  of  accounts 
apphcable  to  all  corporations  under  its  jurisdiction.  Naturally,  if  an 
exception  were  to  be  permitted  to  a  imiform  system  of  accounts,  its 
uniformity  would  cease  to  exist. ^^ 

Another  interesting  contention  of  the  applicant  was  that  the  Com- 
mission in  making  its  order  as  to  car-replacements  assumed  that  the 
New  York  Railways  Company  (the  applicant)  was  responsible  for 
depreciation  upon  the  property  while  it  was  in  the  hands  of  the  Metro- 
politan Company  (its  predecessor).  Of  course,  no  such  assumption 
was  involved.  The  present  application  involved  the  replacement  of  old 
cars  with  new  cars,  and  it  was,  therefore,  necessary  to  ascertain  the 
amount  of  the  actual  replacement.    As  the  company's  books  contained 

'*  In  the  Supreme  Court  case  cited  in  the  footnote  preceding,  that  of  the  Kansas 
City  Southern  Railway  Company,  the  company  had  urged  that  if  the  requirements 
of  the  Interstate  Commerce  Commission's  uniform  system  of  accounts  were  applied 
to  the  case  then  pending,  the  internal  affairs  of  the  corporation  would  be  interfered 
with,  and  that  an  exception  should  be  made  in  their  case.  The  company  contended 
that  the  power  of  prescribing  forms  of  accounts,  which  was  vested  in  the  Interstate 
Commerce  Commission  recognized  a  distinction  between  the  form  and  the  substance. 
While  it  granted  that  the  Commission  must,  in  order  to  obtain  full  and  accurate  in- 
formation about  the  affairs  of  a  corporation,  have  power  to  require  any  reports  or 
schedules  of  accoimts  necessary  to  show  its  true  financial  condition,  yet  such  a  grant, 
in  order  not  to  be  an  unconstitutional  delegation  of  legislative  power,  must  stop  short 
of  a  point  where  the  regulation  in  its  essence  went  not  to  the  form  but  to  the  substance 
and  involved  interference  with  the  internal  affairs  of  the  corporation.  The  Supreme 
Court  in  a  imanimous  decision,  referred  to  above,  explicitly  recognized  the  power  of 
the  Commission  to  make  accounting  regulations  which  should  govern  the  substance 
as  well  as  the  form  of  corporate  financial  operations,  as  follows: 

"We  do  not,  however,  think  that  any  such  distinction  between  the  form  and  the 
substance  is  admissible  with  respect  to  the  declared  object  of  standardizing  railroad 
accoimts  and  obtaining  therefrom  full  and  accurate  information  concerning  the 
affairs  of  the  respective  corporations.  The  very  object  of  a  system  of  accounts  is  to 
display  the  pertinent  financial  operations  of  the  company,  and  throw  light  upon  its 
present  condition.  If  they  are  to  truly  do  this,  the  form  must  correspond  with  the 
substance. " 


CAPITAL  CONTROL  IN  NEW  YORK  117 

no  detailed  distribution  of  assets  (see  discussion  of  same  in  re  Brooklyn 
Union  Gas  Co.,  page  98),  which  would  show  the  figure  at  which  the  old 
cars  were  carried  in  capital  account,  the  Commission  must  perforce 
assume  that  the  cars  were  carried  at  their  original  cost,  and  treat  this 
as  the  figure  at  which  they  were  to  be  replaced. 

In  the  Third  Avenue  reorganization  case  the  Commission  took  the 
position  that  the  new  company  was  purchasing  the  property  of  the  old 
and  that  the  capitahzation  of  the  new  company  should  not  exceed  the 
value  of  the  property  acquired.  The  Court  of  Appeals,  however,  held 
that,  as  the  Public  Service  Commissions  Law  stood  at  that  time,  capitali- 
zation need  not  be  limited  to  value.  The  MetropoHtan  reorganization 
committee  had  taken  advantage  of  this  position  to  issue  securities  far  in 
excess  of  value,  and  hence  their  successor,  the  New  York  Railways  Com- 
pany, in  assuming  the  benefits  of  the  Third  Avenue  decision,  also  assumed 
its  obligations.  It  could  not  capitalize  without  regard  to  value  and  then 
claim  all  the  advantages  it  might  have  had  if  it  had  capitalized  upon  a 
basis  of  value. 

The  counsel  for  the  applicant  stated  that  if  he  were  replacing  the 
identical  cars,  he  would  still  ask  to  be  allowed  to  capitalize  the  difference 
between  value  and  cost,  less  possibly  the  small  depreciation  accruing 
since  the  reorganization.  Obviously,  the  Commission  held,  if  such  a 
position  were  tenable,  obligations  for  replacements  or  accrued  deprecia- 
tion for  which  no  provision  had  beea  made  could  be  side-stepped  simply 
by  going  through  the  form  of  reorganization.  A  corporation  would  then 
be  obUged  to  provide  only  for  depreciation  accruing  from  the  date  of 
reorganization.  Such  a  procedure  would  result  in  the  injection  of 
"water"  into  a  company's  capitahzation  just  as  effectively  as  if  it  were 
included  in  the  original  securities  of  a  corporation,  and  the  only  sound 
solution  for  neglected  depreciation  seemed  to  be  to  compel  a  company 
to  make  up  such  deficit  out  of  earnings  as  rapidly  as  possible,  even  if 
dividends  must  be  sacrificed  in  so  doing.  It  certainly  cannot  be  charged 
to  capital  account  and  a  technical  change  in  corporate  name  or  form, 
such  as  that  involved  in  a  reorganization,  could  not  remove  the  obhgation. 
The  result  of  this  proposition  was  clearly  stated  in  the  opinion  of  the 
United  States  Supreme  Court  in  the  Knoxville  Water  case  mentioned 
above.    We  quote  as  follows: 

If,  however,  a  company  fails  to  perform  this  plain  duty  and  to  exact  sufficient  returns 
to  keep  the  investment  unimpaired,  whether  this  is  the  result  of  unwEirranted  divi- 
dends upon  over-issues  of  securities,  or  of  omission  to  exact  proper  prices  for  the 
output,  the  faxilt  is  its  own. 


118  CAPITAL  CONTROL  IN  NEW  YORK 

The  principle  involved  in  this  case  is  of  vital  importance  because  it  would 
logically  follow,  and  counsel  in  this  case  freely  admitted  it,  that  if  the 
Commission  were  to  allow  the  capitaHzation  of  the  difference  between 
the  value  of  the  old  cars  and  the  cost  of  the  new,  the  same  principle  would 
be  appUed  to  all  other  property,  whether  cars,  power  stations,  sub- 
stations, tracks,  boilers,  engines,  etc.  The  company  would  ask  permis- 
sion to  capitalize  the  difference  between  value  and  cost,  with  a  reduction 
for  accrued  depreciation  since  ^^'^  date  of  reorganization. 

In  the  words  of  the  opinion:  "the  very  corporation  which  was  reared 
upon  the  ruins  of  the  Metropolitan  system  now  comes  before  the  Com- 
mission and  asks  that  we  fix  the  stamp  of  our  approval  upon  the  very 
practise  which  caused  or  aided  the  disruption  of  the  Metropolitan 
system. " 

If  replacements  must  be  made  up  from  funds  accumulated  from 
income,  and  this  is  the  accepted  rule,  then  they  are  operating  expense, 
and  therefore,  as  Commissioner  Maltbie  held  in  this  case,  "the  failure 
to  deduct  retirements  from  capital  account  at  the  same  figure  at  which 
they  went  into  capital  account  is  actually  the  capitalization  of  operating 
expenses  and  will  inevitably  result  in  inflation  of  capitalization." 

Dilemma  in  which  a  Commission  may  be  Placed  in  Opposing  the 
Capitalization  of  Replacements 

Both  New  York  State  Commissions  have  bitterly  opposed  the 
insidious  evil  involved  in  the  capitalization  of  replacements,  and  their 
attitude  is  well  stated  by  former  Chairman  Stevens  in  the  opinion  upon 
the  Niagara  case  to  the  following  effect: 

Overcapitalization  effected  by  bonding  for  replacements  is  as  vicious  as  overcapitali- 
zation effected  in  any  other  manner.  It  is  overcapitalization  which  the  Commission 
is  to  prevent  as  it  would  a  pestilence.  Overcapitalization  which  has  become  an 
accomplished  fact,  upon  which  rights  are  based,  which  has  been  tolerated,  if  not 
recognized  by  law,  is  one  thing;  overcapitalization  by  authority  and  approval  of  the 
Commission  is  another.^' 

A  business  open  to  competition  would  soon  succumb  to  such  a  course, 
but  one  enjoying  a  monopoly,  wholly  or  in  part,  (and  this  applied  to  most 
pubhc  utihties  prior  to  the  Commissions  Law)  could  save  itself  and  its 
investors  through  its  power  over  the  prices  paid  by  the  consumer.  The 
great  increase  in  the  number  of  pubhc  service  corporations  in  the  last 

"  Matter  of  Application  of  Niagara  Light,  Heat  and  Power  Company,  2  P.S.C.R., 
2nd  Dist.,  N.  Y.,  90.    Decided  Jun  e  29,  1909.    See  middle  of  page  112. 


CAPITAL  CONTROL  IN  NEW  YORK  119 

twenty-five  years  and  the  fijiancial  methods  pursued  in  many  cases,  had 
brought  the  pubhc  to  a  reahzation  of  an  intolerable  situation  and  re- 
sulted in  the  creation  of  the  Commissions  and  the  broad  powers  given 
them.  The  corporations  which  were  now  (since  the  enactment  of  the 
PubHc  Service  Commissions  Law)  compelled  to  resort  to  the  Commissions 
to  raise  new  capital,  were  beginning  to  find  that  a  day  of  reckoning  was 
at  hand. 

The  Commissions,  on  the  other  hand,  often  found  themselves  facing 
dehcate  and  embarrassing  situations  in  thus  opposing  the  capitahzation 
of  replacements.  Two  of  the  chief  functions  of  a  Commission  under  the 
Public  Service  Commissions  Law,  are  the  enforcing  of  adequate  service 
to  the  consumer,  and  the  regulation  of  security  issues.  Frequently 
cases  arose  in  which  inadequate  service  due  to  outworn  plant  could  be 
relieved  only  by  new  financing  which  would  involve  the  capitalization  of 
replacements,  due  to  the  fact  that  the  company  had  made  no  provision 
in  the  way  of  depreciation  reserves.  In  such  cases  a  strict  supervision 
of  the  security-issues  would  deprive  the  consiuner  of  badly  needed 
service. 

The  Niagara  Case 

The  Niagara  case  presented  conditions  similar  to  those  outlined 
above,  and  is  also  of  value  because  of  the  financial  plan  suggested  by  the 
Commission  in  an  effort  to  meet  the  dilemma.  The  Niagara  Heat,  Light 
and  Power  Company  petitioned  for  authority  to  issue  bonds  to  the 
amount  of  $50,000.^°  The  property  had  been  taken  over  by  the  present 
corporation  in  1902  and  the  claim  was  made  that  in  the  seven  years 
following,  the  plant  had  been  almost  wholly  rebuilt  at  an  expenditure  of 
$175,000,  of  which  $61,000  had  come  from  surplus  earnings.  In  the 
balance  sheet  submitted  by  the  company,  plant  and  equipment  were 
placed  at  $651,000.  An  analysis  of  this  figure  showed  it  to  be  made  up 
as  foUows:  Franchises — $205,125.35;  bond  discount  $35,000;  items  pro- 
perly chargeable  to  operating  expense,  $68,533.98  and  actual  plant  and 
equipment— $343,204.37. 

In  1902  actual  plant  and  equipment  had  stood  at  $197,819.75.  Since 
that  time  the  gas-making  apparatus  had  been  almost  wholly  recon- 
structed, and  in  addition  a  large  amount  of  old  mains  had  been  abandoned 
and  new  ones  laid  in  Heu  thereof.  The  Commission's  engineer  placed 
the  value  of  the  abandoned  mains  at  $55,000.  Instead  of  crediting  these 
mains  to  capital  in  the  amounts  at  which  they  stood  in  the  books,  the 

*"  See  preceding  footnote  for  reference. 


120  CAPITAL  CONTROL  IN  NEW  YORK 

full  amount  remained  upon  the  books,  and  in  addition,  the  new  work, 
which  was  replacement  pure  and  simple,  had  been  charged  in  full,  so  that 
the  account  "Plant  and  Equipment"  stood  charged  with  both  the 
amount  of  the  old  work  which  had  gone  out  of  existence  and  the  cost  of 
the  new  work  which  replaced  it.  Any  just  statement  of  the  affairs  of 
the  company  would  have  credited  this  amount  to  capital  and  reduced 
existing  plant  and  equipment  by  so  much.  A  revised  balance  sheet 
would  have  changed  a  claimed  surplus  of  $63,000  to  a  deficit  of  $73,000; 
would  reduce  plant  and  equipment  from  $651,863.70  to  $288,204.37, 
and  would  show  an  excess  of  bonded  indebtedness  over  Plant  and  Equip- 
ment and  Unamortized  Bond  Discount  of  practically  $35,000. 

During  the  seven  years  since  it  had  taken  over  the  plant,  the  com- 
pany had,  among  other  things,  issued  $100,000  of  stock  without  consid- 
eration, making  a  balancing  charge  to  franchise  in  the  same  amount; 
had  removed  worn-out  parts  of  its  plant  to  the  value  of  $55,000  and 
replaced  the  same  without  making  any  credit  to  capital,  but  had  added 
the  cost  of  the  new  equipment;  used  $27,000  of  bond  proceeds  for  operat- 
ing expense;  had  carried  $37,000  of  bond  discount  as  an  asset  without 
any  attempt  to  amortize;  had  carried  no  depreciation;  had  charged  full 
cost  of  gas  wells,  an  asset  of  limited  life,  to  plant  and  equipment  without 
any  provision  for  amortization. 

One  of  the  items  in  the  application  was  for  $18,600  for  renewal  of 
certain  gas-pipe,  every  foot  of  which  was  already  capitalized  and  charged 
to  plant  and  equipment.  As  plant  and  equipment  had  never  been 
credited  with  any  sum  whatever  for  depreciation,  the  new  pipe  would  be 
simply  a  replacement. 

The  Commission  had  found  difficulty  in  deciding  such  cases  in  a 
practical  way.  New  service  pipe  should  be  laid  in  the  streets,  the  old 
mains  ought  to  be  replaced,  and  would  have  to  be  if  the  plant  was  to 
render  the  service  to  which  the  pubUc  was  entitled;  and  the  legal  debts 
of  the  company  must  be  paid.  Yet  how  could  this  be  accomplished  with- 
out approving  and  continuing  the  vicious  financial  methods  just  des- 
cribed, and  which  would  only  tend  to  bring  the  company  into  a  worse 
state  than  before? 

The  Commission  was  convinced  that,  under  the  circumstances  of  this 
case,  and  under  the  wide  discretion  given  to  it  by  the  law,  it  had  the 
power  to  deny  this  application,  and  that  it  should  be  denied.  It  also 
reaUzed  that  a  large  number  of  corporations  imder  its  jurisdiction  were 
probably  in  similar  straits,  and  that  it  would  be  unwise  to  try  to  lay  down 


CAPITAL  CONTROL  IN  NEW  YORK  121 

a  general  rule.  It  did  not  decide  that  it  was  not  wise  to  do  so  in  the 
present  case,  but  expressed  itself  to  this  effect:  "It  (the  Commission) 
does  not,  in  view  of  the  universal  assent  to  vicious  methods  in  the  past, 
hold  that  in  every  case  it  will  enforce  a  strict  rule  regardless  of  con- 
sequences. "  It  was  felt  that  the  proper  policy  would  be  to  endeavor  to 
treat  each  case  upon  its  individual  merits  in  such  a  manner  as  to  best 
conserve  the  interests  of  all  parties  concerned,  the  pubhc,  the  security 
holders  and  the  corporation,  with  a  view  to  bringing  about  a  gradual 
change  in  the  financial  management  of  pubUc  utilities. 

The  appUcation,  in  the  form  presented,  was  denied,  but  a  plan  was 
suggested  along  the  following  lines;  all  dividends  to  be  passed  until 
needed  replacements  had  been  paid  for  and  present  indebtedness  for 
operating  expenses  hquidated;  additional  capital  to  be  provided  by  the 
stockholders  with  short  time  paper,  to  the  payment  of  which  all  surplus 
revenue  should  be  pledged;  in  addition,  the  accounts  of  the  corporation 
were  to  be  recast,  fictitious  charges  eliminated,  and  stock  issued  without 
consideration  which  still  remained  in  the  hands  of  original  recipients 
was  to  be  surrendered.^^ 

The  Binghamton  Case 

The  Binghamton  case,  Hke  the  Niagara  case,  involved  a  petition  for 
the  approval  of  securities  which,  if  permitted,  would  have  constituted 
a  capitaUzation  of  replacements.  This  case  was  finally  carried  to  the 
Court  of  appeals,  and  it  is  of  special  interest  because  the  decision  handed 
down  by  this  court,  while  it  reversed  the  specific  Order  of  the  Commis- 
sion, strongly  supported  its  attitude  in  refusing  to  sanction  the  capitali- 
zation of  replacements.  The  effect  has  been  to  impress  pretty  thorough- 
ly upon  pubhc  utiHty  corporations  of  New  York  State  that  capitalization 
of  replacements  is  untenable,  either  in  theory  or  in  practice. 

The  Binghamton  Light,  Heat  and  Power  Company  apphed  for  author- 
ization to  issue  $50,000  of  preferred  stock  and  $680,000  of  bonds.  Of 
the  latter  $500,000  were  to  be  used  for  refunding  a  like  amount  of  under- 
lying bonds.  ^^ 

The  applicant  had  begim  business  in  1902,  at  which  time  it  had  taken 
over  the  plant  of  the  Binghamton  General  Electric  Company.    This  plant 

^  For  a  case  involving  similar  principles  see  Matter  of  the  Application  of  the 
Coney  Island  and  Brooklyn  Railroad  Co.,  2  P.S.C.R.,  1st  Dist.,  N.  Y.,  130.  Opinion 
adopted  October  22,  1909. 

**  Matter  of  Application  of  Binghamton  Light,  Heat  and  Power  Company,  2 
P.S.C.R.,  2nd  Dist.,  N.  Y.,  171.     Decided  August  4,  1909. 


122  CAPITAL  CONTROL  IN  NEW  YORK 

had  been  charged  to  fixed  capital  in  an  amount  of  approximately  $500,000. 
Since  that  time  the  applicant  had  practically  rebuilt  its  physical  proper- 
ties, and  the  valuation  placed  by  the  Commissioner's  engineer  upon 
the  part  remaining  was  $51,000.  With  the  exception  of  property  worth 
this  amount,  it  seemed  that  the  plant  acquired  from  the  Binghamton 
General  Electric  Company  had  totally  gone  out  of  use  and  disappeared, 
yet  the  original  amount  was  still  carried  upon  the  books  of  the  company, 
except  for  an  amount  of  some  $15,000  received  from  the  sale  of  junk, 
which  had  been  duly  credited  to  capital.  Of  $158,000  of  outstanding 
notes  which  it  was  desired  to  refund,  it  appeared  that  the  greater  part 
had  been  used  in  making  replacements.  These  replacements  had  also 
been  charged  to  Fixed  Capital,  so  that  both  the  abandoned  plant  and  the 
replacements  thereof  appeared  as  assets.  In  short,  the  applicant  had 
followed  the  usual  practice  of  replacing  its  worn-out  plant  with  the  pro- 
ceeds of  new  issues  of  stocks  and  bonds  and  charging  to  Fixed  Capital 
the  cost  of  the  new  pla  nt,  while  at  the  same  time  it  retained  the  cost  of  the 
destroyed  plant  in  its  Fixed  Capital  account  as  an  asset. 

In  connection  with  the  application  of  the  Niagara  Light,  Heat  and 
Power  Company  the  Commission  took  the  position  that  in  the  exercise 
of  the  wide  discretion  given  it  in  such  matters,  it  would  not,  under 
ordinary  circumstances,  approve  an  issue  of  stocks  or  bonds  for  the  pur- 
pose of  making  replacements  of  fixed  capital  without  a  readjustment  of 
the  accounts  of  the  corporation. 

The  same  principle  was  adhered  to  in  this  case.  The  Commission 
had  been  unable  to  ascertain  the  sum  at  which  the  old  plant  was  being 
carried  in  Fixed  Capital  account.  It  suggested  that  such  ascertainment 
be  made,  and  that  the  apphcant  either  credit  the  same  to  Fixed  Capital, 
or  else  create  a  charge  upon  net  income  which  would  accumulate  a  fund 
to  wipe  out  the  amount.  Some  such  steps  would  be  necessary,  it  was 
intimated,  as  a  pre-requisite  to  the  cooperation  of  the  Commission,  as 
additional  capitalization  would  not  be  permitted  upon  the  basis  of  the 
existing  untruthful  accounts.  The  case  was  continued  to  give  the  ap- 
plicant an  opportunity  to  present  some  plan  in  conformity  with  the  re- 
quirements of  the  Commission. 

A  few  months  later  the  company  again  came  before  the  Commission, 
but  was  imwilling  to  make  any  concessions  from  its  former  position. 
What  the  Commission  especially  objected  to  was  the  fact  that  the  ap- 
plicant still  sought  permission  to  issue  bonds  to  refund  certain  notes  to 
the  amount  of  $158,000,  the  proceeds  of  which  notes  the  Commission 
found  had  been  used  in  great  part  for  making  replacements  to  the  plant 


CAPITAL  CONTROL  IN  NEW  YORK  123 

of  the  company  to  an  extent  stated  to  have  been  "  the  practical  rebuilding 
of  the  plant. " 

The  Company  had  been  given  an  opportunity  to  prove  that  such  was 
not  the  case,  but  had  failed  to  deny  the  former  finding  of  the  Commission 
in  this  respect.  It  contended  that  the  application  should  have  been 
granted  unconditionally,  notwithstanding  such  finding,  as  a  matter  of 
legal  right;  that  is,  the  company  was  entitled  to  capitaHze  money  ex- 
pended for  replacements,  and  at  the  same  time,  retain  in  its  fixed  capital 
account  the  value  of  the  property  replaced. 

To  sustain  their  contention  as  to  their  legal  right  to  the  proposed  issue 
the  applicant  relied  upon  the  decision  of  the  Court  of  Appeals  in  the 
Delaware  and  Hudson  case.^  The  Commission  held  that  the  principle 
there  laid  down  was  not  relevant  to  the  present  case,  as  in  that  case  the 
matter  involved  was  of  indebtedness  incurred  in  the  acquisition  of  proper- 
ty, a  proper  capital  charge,  and  there  had  been  no  question  as  to  false 
and  misleading  accounts.  The  indebtedness  was  incurred  in  the  pur- 
chase of  property  which  the  Commission  held  was  disconnected  with 
the  raihoad  properties  of  the  applicant,  upon  which  it  was  sought  to 
charge  the  new  bond  issue,  and  the  application  was  denied  on  the  ground 
that  it  was  against  public  policy,  as  tending  to  impair  the  power  of  the 
company  to  properly  perform  its  functions  as  a  common  carrier  in  the 
use  of  its  railroad  properties. 

In  this  case  the  Commission  held  that  the  indebtedness  had  been  in- 
curred for  replacements,  and  that  these  are  not  a  capital  charge  unless 
the  amount  at  which  the  replaced  property  was  charged  to  fixed  capital 
account  has  been  credited  at  the  time  of  withdrawal.  The  applicant, 
however,  did  not  claim  that  the  Commission  had  overstepped  the  limits 
of  its  discretionary  power,  as  the  Court  of  Appeals  had  accused  it  of 
doing  in  the  Delaware  and  Hudson  case,  but  went  so  far  as  to  deny  that 
the  Commission,  in  this  case,  possessed  any  discretion. 

Finally,  representatives  of  the  company  suggested  a  compromise  ar- 
rangement by  which  the  Commission  should  approve  the  issue  of  $158,000 
in  bonds  for  the  refunding  of  the  outstanding  notes,  while  the  company 
would  agree  to  reduce  its  capitalization  by  $100,000.  The  Commission 
agreed  to  this  plan  and  issued  an  Order  based  upon  it.  A  little  later,  the 
company,  for  some  unknown  reason,  appealed  from  the  Order  of  the  Com- 
mission, the  terms  of  which  it  had  itself  suggested.  Hence,  it  can  easily 
be  seen  that  when  the  company  thus  reversed  its  attitude  toward  the 

^  People  ex  rel.  The  Delaware  and  Hudson  Co.  vs.  Stevens,  197  N.  Y.,  1.  De- 
cided December  7,  1909, 


124  CAPITAL  CONTROL  IN  NEW  YORK 

Order,  it  left  the  Commission  in  the  position  of  requiring  the  company 
to  immediately  cancel  $100,000  of  its  capital  stock.  Totally  aside  from 
the  question  of  whether  it  had  the  power,  or  thought  it  had  the  power  so 
to  do,  there  was  no  such  idea  in  this  case,  as  the  Commission  had  simply 
agreed  to  the  compromise  suggested  by  the  company. 

It  might  have  been  more  expedient  for  the  Commission  to  have  made 
some  arrangement  for  the  gradual  amortization  of  the  excess  capitaliza- 
tion, as  was  done  by  the  First  District  Commission  in  the  case  of  the 
Brooklyn  Borough  Gas  Company,  discussed  under  the  heading  'Amorti- 
zation of  Excess  Capitalization.^ 

At  any  rate  the  company  saw  fit  to  object  to  the  Order,  and  instituted 
proceedings  in  certiorari.  The  Appellate  Division  of  the  Supreme  Court, 
however,  supported  the  Commission,  and  an  appeal  was  taken  to  the 
Court  of  Appeals.  In  a  unanimous  opinion,  that  Court  held  that,  under 
Section  69  of  the  Pubhc  Service  Commissions  Law,  even  before  the 
amendment  of  1910,  the  Commission  had  no  power  to  approve  the 
issuance  of  securities  for  the  discharge  or  refunding  of  indebtedness 
incurred  for  renewals,  or  for  the  payment  of  operating  or  other  charges 
which  ought  to  be  paid  out  of  income.^  According  to  this  decision  it  was 
incumbent  upon  the  Commission,  before  approving  an  issue  of  bonds 
for  the  discharge  or  refunding  of  obhgations  to  apply  three  tests,  as 
follows: 

(1)  To  ascertain  the  piirposes  for  which  the  expenditures  were  made. 

(2)  To  determine  whether  all  represented  permanent  improvements  of  the  plant 
or  renewals  and  replacements  of  obsolete  or  worn-out  property. 

(3)  To  segregate  all  expenditures  for  maintenance,  renewals,  and  replacements, 
and  to  permit  the  capitalization  of  only  such  expenditures  as  represent  permanent 
improvements. 

The  Court  of  Appeals  strongly  supported  the  power  of  the  Commis- 
sions, under  the  Public  Service  Commissions  Law  as  originally  drafted, 
to  prevent  the  capitalization  of  replacements.  This  discussion,  however, 
was,  to  some  extent,  in  the  nature  of  obiter  dicta. 

The  Court  of  Appeals  assumed  that  the  Conimission  had  sought  to 
compel  the  company  to  reduce  its  capital-stock  by  $100,000,  and  it 
reversed  the  decision  of  the  Appellate  Division  of  the  Supreme  Court 
upon  the  point  at  issue,  holding  that  "the  condition  imposed  by  the 
Commission  (the  cancellation  of  $100,000  of  capital  stock)  unless  perhaps 

^  See  page  98. 

^  People  ex  rel.  Binghamton  Light,  Heat  and  Power  Company  v.  Stevens,  203 
N.  Y.,  7.    Decided  October  3,  1911. 


CAPITAL  CONTROL  IN  NEW  YORK  125 

to  adjust  the  financial  affairs  of  the  corporation  with  the  consent  of  the 
stockholders  or  stockholders  and  bondholders  was  wholly  unauthorized."^ 

New  York  Commissions  Cannot  Compel  Provision  for  Depreciation 
The  power  of  the  Commissions  to  compel  the  setting  aside  of  fimds  for 
depreciation  reserve  has  been  a  question  since  the  enactment  of  the 
Public  Service  Commissions  Law.  In  view  of  the  decision  handed  down 
by  the  Court  of  Appeals  in  May  1918,  this  point  has  been  definitely 
settled  in  the  negative.2^  The  only  course  now  open  is  an  amendment  to 
the  Law. 

Sections  52,  66,  80  and  95  of  the  Pubhc  Service  Commissions  Law 
authorize  the  Commissions  to  prescribe  imiform  methods  of  keeping 
accounts,  records  and  books  to  be  observed  by  the  different  classes  of 
utility  corporations.  During  1908,  each  of  the  Commissions  prepared 
systems  of  imiform  accounts  which  became  effective  on  and  after  January 

^  Pertinent  excerpts  from  the  dicta  of  the  court  in  this  case  are  quoted  as  follows : 
"The  question  as  to  what  expenditures  are  a  proper  basis  for  permanent  capitalization 
is  an  important  one,  always  a  proper  and  necessary  subject  for  consideration,  not  alone 
by  the  directors  of  a  corporation,  but  by  any  commission  that  has  authority  to  grant 
or  withhold  its  consent  to  the  issue  of  new  stock  or  bonds  which  are  to  become  a  part 
of  the  corporation's  permanent  capitalization.  .  .  . 

"It  will  not  be  denied  that  fuel  and  such  other  materials  as  are  consumed  from 
day  to  day  and  the  labor  incurred  in  daily  maintenance  should  be  paid  for  from  the 
earnings  of  the  corporation  as  a  part  of  its  nmning  expenses  prior  to  the  payment  of 
interest  upon  bonds  or  dividends  upon  capital  stock.  A  reasonable  consideration  of 
the  interests  of  a  corporation  and  the  ultimate  good  of  its  stock  and  bondholders  and  a 
regard  for  the  investing  public  and  that  fair  deaUng  which  should  be  observed  in  all 
business  transactions,  requires  that  machines  and  tools  paid  for  and  charged  to  capital 
account  but  which  necessarily  become  obsolete  or  whoUy  worn  out  within  a  period  of 
years  after  the  same  are  purchased  or  installed,  should  be  renewed  or  replaced  by 
setting  aside  from  time  to  time  an  adequate  amount  in  the  natiure  of  a  sinking  fund  or 
that  by  some  other  system  of  financing  the  corporation  put  upon  the  purchaser  from 
the  corporation  the  expense  not  alone  of  the  daily  maintenance  of  the  plant  but  a  just 
proportion  of  the  expense  of  renewing  and  replacing  that  part  of  the  plant  which 
although  not  daily  consimied  must  necessarily  be  practically  consiuned  within  a  given 
time.  If  that  is  not  done  and  renewals  and  replacements  are  continually  added  to 
the  capital  account  the  capital  accoimt  must  necessarily  become  more  and  more  out 
of  proportion  to  the  real  value  of  the  property  of  the  corporation." 

For  similar  cases  involving  capitalization  of  replacements  see  the  Matter  of 
AppUcation  of  the  New  York  Mimicipal  Railway  Corporation,  4  P.S.C.R.,  1st  Dist., 
N.  Y.  105,  Orders  entered  March  20,  1913,  and  also  the  Matter  of  the  Application  of 
the  Belt  Lme  Railway  Corporation,  4  P.S.C.R.,  1st  Dist.,  N.  Y.  411.  Opinion  adopted 
November  7,  1913. 

"  People  ex  rel  New  York  Railways  Co.,  et  al.,  Public  Service  Commission  223 
N.  Y.,  373.    Decided  May  14, 1918. 


126  CAPITAL  CONTROL  IN  NEW  YORK 

1,  1909.  These  systems  included  railroads,  gas  companies,  and  electri- 
cal corporations.  Subsequently  similar  systems  were  adopted  for  tele- 
graph and  telelphone  companies  and  for  steam  heating  companies  as  they 
were  brought  within  the  jurisdiction  of  the  commissions. 

The  requirements  of  the  uniform  systems  of  accounts  have  the  force 
of  law.^^  The  orders  of  the  Commissions  relative  to  the  uniform  systems 
of  accoimts  require  that  when  fixed  capital  is  retired  from  service,  de- 
preciation applicable  to  the  period  after  December  31,  1908,  is  to  be 
charged  to  the  depreciation  reserve. 

The  Fixed  Capital  Account  is  to  be  divided  into  capital  acquired  prior 
to  December  31,  1908,  and  capital  acquired  subsequent  to  that  date. 
The  object  of  this  requirement  was  to  keep  the  'watered  capitalization' 
existing  on  December  31,  1908,  (where  any  such  did  exist),  in  a  separate 
compartment,  and  thus  make  it  easier  to  keep  track  of  it  than  would  be 
the  case  if  subsequent  additions  to  capitalization  were  lumped  in  with 
the  old.  In  other  words,  to  segregate  the  existing  excess  capitalization 
as  far  as  possible,  to  keep  it  segregated,  and  to  compel  the  observance  of 
correct  principles  of  accounting  with  regard  to  changes  in  capitahzation 
subsequent  to  the  taking  effect  of  the  Uniform  Systems  of  Accoimts. 

This  compulsory  division  of  capital  account  into  two  parts,  that  exist- 
ing prior  to  December  31, 1908,  and  that  created  subsequent  to  such  date, 
was  in  itself  a  great  reform  over  existing  conditions. 

The  provision  of  the  uniform  system  of  accounts  further  stipulates 
with  regard  to  the  setting  aside  of  reserves  for  depreciation,  that  until 
otherwise  ordered,  the  amount  estimated  to  be  necessary  to  cover  such 
depreciation  month  by  month  is  to  be  based  upon  a  rule  to  be  determined 
by  the  company,  which  rule  may  be  amended.  It  would  be  necessary  to 
leave  the  rule  open  to  amendment,  as  subsequent  developments  might  be 
very  likely  to  show  that  the  rate  has  been  set  too  low  or  unnecessarily 
high  to  accomplish  its  purpose.  The  question  is,  who  has  the  real  power 
to  do  the  amending,  the  corporation  or  the  Commissions?  Some  light 
was  thrown  upon  this  point  by  the  decision  of  the  Appellate  Division  of 
the  Supreme  Court  for  the  First  Department,  in  connection  with  a  ruling 
of  the  first  District  Commission  upon  an  application  for  approval  of  an 
issue  of  securities  brought  by  the  Kings  County  Lighting  Company.^^ 

*•  People  ex  rel.  Bridge  Operating  Co.  vs.  Public  Service  Commission  153 — App. 
Div.  N.  Y.,  129.    Decided  November  15, 1912.     See  page  137. 

*"  People  ex  rel.  Kings  County  Lighting  Company,  178  App.  Div.  840.  Decided 
July  13,  1917. 


CAPITAL  CONTROL  IN  NEW  YORK  127 

On  September  10,  1915,  the  Kings  County  Lighting  Company  had 
requested  the  approval  of  the  First  District  Commission  for  the  issuance 
of  $675,000, 5  per  cent  bonds.  Of  the  proceeds,  the  sum  of  $135,000  was 
to  be  applied  to  the  reimbursement  of  moneys  expended  from  income  prior 
to  July  1, 1915,  for  additions  and  betterments. 

On  May  25,  1916,  the  Commission  entered  an  Order  authorizing 
the  apphcant  to  issue  $472,000  of  the  proposed  bonds.  Later,  however, 
on  September  8,  1916,  pursuant  to  a  rehearing  granted  by  the  Commis- 
sion to  the  company,  the  previous  Order  was  amended  so  as  to  permit 
the  issue  of  bonds  for  the  full  amount  of  $675,000  originally  asked  for. 

The  Order  stipulated,  with  regard  to  the  amount  asked  for  reim- 
bursement of  the  treasury,  that  the  sum  of  $134,545,  should  be  applied 
only  (to  quote) : 

For  reimbursement  of  moneys  expended  from  income  or  such  other  moneys  in 
the  Treasury  for  the  construction,  completion,  extension  or  improvement  of  its  facili- 
ties, plant  or  distributing  system  and  when  so  reimbursed  to  be  used  only  to  make  good 
depreciation  in  the  property  of  the  company. 

The  Company  refused  to  accept  the  terms  of  the  Commission's 
Order.  It  objected  to  the  requirement  that  the  sum  of  $134,545  allowed 
for  reimbursement,  "be  used  only  to  make  good  depreciation  in  the 
property  of  the  company, "  and  sued  out  a  writ  of  certiorari  to  review  the 
determination  of  the  Commission.  This  was  granted,  and  the  case  was 
heard  on  June  6,  1917. 

It  appeared  from  the  evidence  that  only  a  minor  part  of  the  sum 
stated  had  been  derived  from  the  depreciation  account,  the  remainder 
being  from  income.  The  effect  of  the  Commission's  Order  would  be 
to  turn  all  this  income  into  the  company's  depreciation  account.  This 
the  company  claimed  the  Commission  had  no  authority  to  do. 

The  company,  in  compliance  with  the  requirements  of  the  Uniform 
system  of  Accounts  instituted  by  the  Commission,  and  which  had  be- 
come effective  January  1,  1909,  had  filed  a  rule  providing  for  the  reten- 
tion of  eight  cents  per  thousand  cubic  feet  of  gas  sold,  for  a  depreciation 
fund.  From  January  1,  1909,  to  July  1,  1916,  it  had  made  charges  to 
operating  expenses  and  credits  to  accrued  amortization  of  capital  upon 
that  basis.  In  August  1916,  the  company  had  filed  an  amended  rule 
from  July  1,  1916,  providing  for  a  charge  of  11}/^  cents  per  thousand 
cubic  feet  of  gas  sold  to  the  account  of  "General  Amortization — Gas." 
The  company  did  not  set  aside  any  separate  fund  for  depreciation  re- 
serve, but  took  care  of  it  in  its  bookkeeping  by  means  of  deductions  from 
fixed  capital.    Hence,  a  part  of  the  funds  expended  "from  income  or 


128  CAPITAL  CONTROL  IN  NEW  YORK 

from  other  moneys"  in  the  treasury  of  the  relator  represented  deprecia- 
tion. An  analysis  of  the  company's  balance-sheets  showed  that,  under 
the  8  per  cent  rate,  the  portion  of  the  money  so  spent  amounted  to 
$48,000.  To  permit  the  company  to  issue  bonds  to  reimburse  it  for  this 
amount  would  be  to  permit  it  to  capitalize  its  depreciation  fund,  a  prac- 
tice which  would  lead  to  bankruptcy.  The  Commission,  the  court  held, 
would  have  been  compelled  to  deny  an  apphcation  to  issue  bonds  to  re- 
imburse the  Treasury  for  money  spent  out  of  the  depreciation  fund 
"whereas  it  would  have  been  not  only  justified  but  required  to  issue  its 
consent  if  such  had  not  been  the  fact. " 

The  Order  of  the  Commission,  however,  the  court  held,  undertook  to 
require  the  company  to  apply  a  much  larger  sum  than  the  depreciation 
fund  under  the  8  cent  rate  had  amounted  to.  This  the  Commission 
arrived  at  by  applying  the  113^  cent  rate  since  1909. 

In  concluding  its  opinion  the  court  held  as  follows: 

there  was  no  legal  justification  for  the  Commission  so  doing.  The  Company  was 
entitled  imder  the  law  to  fix  its  own  rule  or  rate  of  depreciation,  and  it  fixed  the  same 
at  eight  cents.  In  no  event  could  the  Commission,  without  taking  an  independent 
proceeding  against  the  relator,  in  which  the  relator  would  have  notice  and  an  oppor- 
timity  to  defend  itself,  make  an  order  requiring  it  to  change  its  whole  system  of  account- 
ing and  put  its  depreciation  charge  upon  some  other  basis  than  that  adopted  by  the 
company  under  the  law,  and  the  earlier  order  of  the  Commission. 

The  Court  therefore  modified  the  order  of  the  Commission  by  pro- 
viding that  out  of  the  $134,545  allowed  for  reimbursement  of  moneys  ex- 
pended from  income  the  sum  of  $48,000  only  should  be  used  to  make 
good  the  amount  spent  out  of  depreciation  reserve. 

The  court,  in  short,  took  the  ground  that  because  the  company  had 
filed  a  rate  of  eight,  cents  per  thousand  cubic  feet  of  gas  sold  to  be 
retained  for  depreciation  reserve,  and  the  Commission  had  made  no  ob- 
jection, that  therefore,  the  Commission  virtually  approved  such  rate. 

As  every  gas  company  under  the  jurisdiction  of  the  respective  Com- 
missions has  different  conditions  making  for  depreciation,  and,  conse- 
quently a  different  rate  of  depreciation,  the  Commission  would  have  to 
make  an  investigation  in  the  case  of  each  company  filing  a  rate.  The 
work  involved,  especially  in  the  case  of  the  several  hundred  small  com- 
panies under  the  jurisdiction  of  the  Second  District  Commission,  makes 
such  a  proposition  absurd.  The  attitude  assumed  by  the  court  in  this 
decision  would  seem  to  uphold  the  position  that,  upon  the  fihng  of  a  rate 
for  depreciation  by  a  company,  the  absence  of  protest  at  that  time  by  the 
Commission  amounts  to  virtual  acceptance  of  such  rate  of  depreciation 


CAPITAL  CONTROL  IN  NEW  YORK  129 

by  the  Commission  and  ties  its  hands  in  that  regard  if  it  later  has  occa- 
sion to  consider  the  adequacy  of  the  rate.  If  one  rate  is  investigated  at 
the  time  of  fihng,  then  all  would  have  to  be  so  examined.  Such  a  task 
would  be  well-nigh  impossible. 

The  practical  effect  of  this  decision  was  to  cast  grave  doubt  upon  the 
powers  of  the  Commission  in  the  matter  of  requiring  the  setting  aside  of 
reserves  for  depreciation. 

The  next  judicial  interpretation  bearing  upon  the  Commissions' 
powers  over  depreciation  was  a  decision  by  the  Appellate  Division  of  the 
Supreme  Court  for  the  First  Department  in  connection  with  the  depre- 
ciation requirement  which  the  First  District  Commission  had  imposed 
upon  the  New  York  Railways  Company .^"^  The  latter  had  been  reor- 
ganized in  1912,  upon  the  wreck  of  the  Metropohtan  system  during  the 
period  between  the  Third  Avenue  decision  of  the  Court  of  Appeals  and 
the  adoption  of  the  reorganization  amendment,  and  during  which  time 
the  Commissions  were  compelled  to  approve  reorganization  plans  coming 
within  the  terms  of  the  old  reorganization  law,  no  matter  how  much 
the  amount  of  new  capitalization  seemed  to  exceed  the  value  of  the 
property. 

The  Commission  in  this  instance  had  felt  constrained  to  adopt  a  plan 
far  in  excess  of  the  property  value  and  in  order  to  carry  out  this  plan, 
had  finally  made  three  orders  (1)  on  January  24,  1912,  authorizing  the 
issue  of  the  stocks  and  bonds;  (2)  on  February  27,  1912,  consenting  to 
the  execution  of  the  mortgages  (3)  on  February  27th,  1912,  providing 
among  other  things  as  follows  :^^ 

Section  3.  Ordered,  that  the  New  York  Railways  Company  before  declaring  or 
paying  any  dividend  on  its  shares  of  stock  or  interest  on  its  bonds  secured  by  said 
adjustment  mortgage  shall  expend  or  set  aside  each  month  beginning  January  1,  1912, 
for  maintenance  and  depreciation  during  such  month  a  sum  at  least  equal  to  twenty 
per  cent  of  its  gross  operating  revenue  for  such  month,  and  if  this  amount  is  not 
expended  for  repairs  and  maintenance  within  that  month  the  imexpended  portion 
thereof  shall  be  credited  as  of  the  end  of  that  month  to  the  account  (Accrued  Amortiza- 
tion of  Capital)  in  accordance  with  the  provisions  of  the  imiform  system  of  accounts 
prescribed  by  this  Commission,  for  street  and  electric  railways. 

A  subsequent  order  of  December  10,  1912,  amended  this  order  in 
certain  particulars   but  left  the  depreciation  reserve  provisions  un- 

'"  People  ex  rel  New  York  Railways  Co.,  et  al  vs.  the  Public  Service  Commission, 
181  App.  Div.,  338.    Decided  January  18, 1918. 

"  Matter  of  Plan  for  Reorganization  of  the  Metropolitan  Street  Railway  Company, 
3  P.S.C.R.,  1st  Dist,  N.  Y.,  113.  (See  bottom  page  125.)  Opinion  adopted  February 
27,  1912. 


130  CAPITAL  CONTROL  IN  NEW  YORK 

changed.^^  Under  date  of  December  21,  1914,  the  New  York  Railways 
Company  requested  an  amendment  of  the  Order  of  December  10,  1912, 
"so  as  to  provide  that  the  amount  required  to  be  expended  or  set  aside 
each  month  for  maintenance  and  depreciation  shall  be  a  sum  at  least 
equal  to  20%  of  the  gross  passenger  revenue  for  each  such  month  instead 
of,  as  in  said  Order  provided,  20%  of  the  gross  operating  revenue,  and  that 
said  order  may  be  so  amended  nunc  pro  tunc  as  of  January  1,  1912. " 

.  .  .  This  appUcation  was  denied  August  4,  1914,^^  In  the  meantime 
the  Company  sued  out  a  writ  of  certiorari  to  review  the  Commissions* 
Order.  The  matter  was  argued  at  the  Appellate  Division  of  the  Supreme 
Court  for  the  First  Department  on  December  12,  1917.  On  January 
18,  1918,  the  latter  handed  down  a  decision  sustaining  the  action  of  the 
Commission  in  requiring  the  New  York  Railways  Company  to  set  aside 
monthly  20  per  cent  of  its  gross  revenue  into  a  depreciation  fund  ^^ 

The  Court  in  its  opinion  stated  that  the  original  order  of  the  Commis- 
sion in  this  regard  had  been  made  upon  abundant  proof  as  to  the  reserve 
fund  necessary  for  maintenance  and  depreciation.  The  company,  it 
appeared,  did  not  question  the  order  upon  that  ground,  but  based  its 
case  upon  the  contention  that,  right  or  wrong,  it  was  the  province  of  the 
corporation  directors  and  not  that  of  the  Commission  to  determine  what 
amount  should  be  set  aside  for  that  purpose. 

The  Court  pointed  out  that,  since  February,  1912,  the  date  of  the 
original  order,  20  per  cent  had  been  set  aside  as  required;  of  this  20  per 
cent  the  company's  records  showed  that  16%  per  cent  had  been  required 
for  actual  maintenance  expenses,  leaving  3}/^  per  cent  which  had  been 
set  aside  to  provide  for  depreciation  and  obsolescence.  At  the  time  the 
case  was  considered  by  the  Court  (January  1918)  a  fimd  of  $3,000,000 
had  thus  been  accumulated,  while  the  company  had  been  able  to  pay  only 
3  per  cent  upon  its  income  bonds  instead  of  5  per  cent.  The  reorganiza- 
tion plan  provided  that  these  income  bondholders  were  entitled  for  a 
time  to  name  directors  to  a  number  one  less  than  a  majority  of  the  board 
and  it  was  further  pointed  out  that  if  the  amount  of  this  fimd  to  be 
reserved  for  depreciation  were  to  be  left  to  the  directors  it  was  fair  to 
assume  that,  with  so  large  a  representation  of  the  income  bondholders 

'"  Matter  of  Application  of  the  New  York  Railways  Company,  3  P.S.C.R.,  1st 
Dist.,  N.  Y.,  453.    Opinion  adopted  December  10, 1912. 

"  See  also  Matter  of  Rehearing  upon  the  Application  of  the  New  York  Railways 
Company,  6  P.S.C.R.,  1st  Dist.,  N.  Y.,  237.    Opinion  adopted  July  27, 1915. 

^  People  ex  rel.  New  York  Railways  Company  Public  Service  Commission,  181. 
App.  Div.  N.  Y.,  338.    Decided  January  18, 1918. 


CAPITAL  CONTROL  IN  NEW  YORK  131 

upon  the  board,  the  moneys  thus  reserved  would  largely  be  applied  to 
the  payment  of  the  interest  upon  these  bonds  up  to  5  per  cent,  and  the 
fund  reserved  for  depreciation  would  be  reduced  to  a  minimum,  although 
the  amoimt  now  reserved  was  shown  by  the  evidence  to  be  no  more  than 
was  necessary  to  take  care  of  depreciation  and  obsolescence.  If  the 
company's  contention  was  sound,  the  Court  held,  the  directors  could 
entirely  deplete  this  fund  for  the  payment  of  this  interest  until  there 
came  a  time  when  such  a  fund  would  be  necessary  to  restore  the  road  to  a 
proper  standard  and  there  would  be  no  fund  appHcable  thereto  and  the 
commission  charged  with  the  duty  of  protecting  the  pubhc  would  be 
powerless  to  prevent  the  waste. 

The  court  then  quoted  at  length  from  the  opinion  of  the  Coiu-t  of 
Appeals  in  the  Binghamton  case  to  show  (1)  that  the  allowance  for 
depreciation  and  obsolescence  must  be  deemed  a  part  of  the  operating 
expenses  of  a  corporation  and  (2),  that  a  corporation  is  not  authorized 
to  issue  bonds  or  stock  to  provide  therefor  and  that  the  Public  Service 
Commission  is  not  authorized  to  consent  to  such  an  issuance.^^  The 
court  pointed  out  that,  while  the  capitalization  of  replacements  was  not 
the  issue  in  this  case,  there  was  squarely  presented  the  converse  of  that 
proposition,  namely,  proper  and  necessary  provision  against  the  need  for 
such  a  course.  If,  as  laid  down  in  the  Binghamton  case,  the  court  held, 
new  stock  or  bonds  cannot  issue  to  make  good  depreciation  and  obsoles- 
cence, and  if,  as  contended  by  the  company,  the  Commission  is  not 
authorized  to  require  a  sufficient  fund  to  be  set  apart  to  provide  for  the 
same  "  the  legislature  has  wholly  failed  to  accompHsh  its  purpose  to  pro- 
vide protection  for  the  investing  and  traveling  public.  That  this  was 
the  purpose  of  the  creation  of  the  PubHc  Service  Commission  is  held  by 
all  the  authorities,"  For  not  only  was  the  issuance  of  new  stock  and 
bonds  made  subject  to  the  approval  of  the  Commission,  but  expUcit 
power  was  given  to  the  Commission  to  provide  complete  and  adequate 
equipment  for  the  convenience  of  the  traveling  pubhc,  to  order  repairs, 
changes,  alterations  in  terminal  facihties,  motive  power  and  equipment, 
in  order  to  provide  what  in  its  judgment  was  "adequate  service  and 
facihties  for  the  transportation  of  persons  and  property.^* 

The  Court  further  pointed  out  that  while  under  the  settled  rules  of 
statutory  interpretation  power  was  'imphedly'  given  to  take  such  action 

^  People  ex  rel.  Binghamton  Light,  Heat  and  Power  ComE>any  v.  Stevens,  203 
N.  Y.,  7.    Decided  October  3, 1911. 

"  See  Public  Service  Commissions  Law,  Section  50.  (Chapter  480,  Laws  of  1910, 
or  Consolidated  Laws,  Chapter  48). 


132  CAPITAL  CONTROL  IN  NEW  YORK 

as  might  be  necessary  to  make  effective  the  powers  explicitly  given  to 
accomplish  the  purpose  of  the  enactment,  in  this  case  resort  to  the  rule 
of  'implied  powers'  was  not  necessary,  as  it  was  provided  that  "There 
shall  be  a  Public  Service  Commission  for  each  district  and  each  Com- 
mission shall  possess  the  powers  and  duties  hereinafter  specified  and 
also  all  powers  necessary  or  proper  to  enable  it  to  carry  out  the  purposes  of 
this  act.^''  That  if  the  Commission  did  not  possess  this  power  the  direc- 
tors would  be  at  liberty  to  divert  to  the  pajonent  of  the  interest  on  the 
income  bonds  this  depreciation  fund  which  is  necessary  for  the  main- 
tenance of  the  value  of  the  security  and  also  necessary  for  adequate  ser- 
vice to  the  traveling  public.  When,  in  time,  it  became  necessary  to 
replace  obsolescent  and  depreciated  equipment  no  fund  would  have  been 
created  for  that  purpose.  As  the  Commission  would  have  no  authority 
to  assent  to  the  issuance  of  new  securities  for  that  purpose,  it  would  be 
impossible  for  the  company  to  make  the  necessary  replacement  because 
of  lack  of  funds  and  the  ability  to  procure  them.  The  corporation  would 
become  unable  to  perform  its  pubUc  functions,  bankruptcy  would  ensue 
and  another  reorganization,  with  the  attendant  impairment  of  securities, 
would  become  necessary. 

"The  Court"  it  was  held,  in  conclusion,  "should  not  so  construe  the 
powers  given  as  to  permit  the  very  evils  which  the  Legislature  has 
sought  to  remedy.  This  holding  now  made  does  not  substitute  the 
judgment  of  the  Commission  for  that  of  the  Board  of  Directors  except 
so  far  as  may  be  absolutely  necessary  to  provide  for  the  maintenance  of 
the  value  of  the  securities  and  of  adequate  facilities  for  transportation 
by  the  requirement  to  pay  what  is  deemed  in  law  'Operating  expenses* 
from  income  and  as  I  ^^  read  the  statute  in  view  of  the  purposes  of  its 
enactment  this  authority  is  there  given." 

This  was  probably  the  most  liberal  opinion  ever  handed  down  by  the 
New  York  Courts  in  connection  with  the  Public  Service  Commissions 
and  seemed  to  leave  no  doubt  as  to  their  power  to  compel  the  setting 
aside  of  adequate  depreciation  reserves. 

The  Company  appealed  to  the  Court  of  Appeals  and  four  months 
later  (May  1918),  there  was  handed  down  a  decision  which  reversed  the 
decision  of  the  Appellate  Division  and  which  seems  to  settle  definitely 

'^  Italics  not  in  original. 

'*  Public  Service  Commissions  Law,  Section  4. 


CAPITAL  CONTROL  IN  NEW  YORK  133 

that  the  Commissions  do  not  have  power  to  compel  provision  for  de- 
preciation.'* 

If  the  premise  assumed  by  the  decision  of  the  Appellate  Division  is 
true,  that  the  purpose  of  the  creation  of  the  Commissions  was  to  provide 
protection  for  the  investing  and  traveling  public,  then  certainly  under 
the  decision  of  the  Court  of  Appeals,  they  cannot  achieve  the  purposes 
of  their  creation.  Apparently,  the  power  to  amend  the  depreciation 
rate  rests  with  the  company  and  it  alone,  and  if  the  companies  do  not  see 
fit  to  set  aside  adequate  depreciation,  there  will  ultimately  be  urgent 
calls  for  securities  to  finance  replacements.  As  such  a  procedure  will  be 
illegal,  reorganizations  with  their  attendant  consequences  to  security 
holders  will  be  inevitable.  The  difference  between  the  two  opinions  is 
simply  that  between  broad  and  narrow  construction.  The  Court  of 
Appeals  says  that  the  sole  question  is  whether  the  Commissions  have 
power  to  make  the  order  and  that  the  Commission  bases  its  claim  upon 
Section  52  of  the  Public  Service  Commission's  law,  relating  to  the  Com- 
mission's powers  to  prescribe  uniform  systems  of  accoimts.  This  sec- 
tion, the  Court  claims,  gives  power  "not  to  regulate  the  management  of 
their  finances  but  to  show  what  the  management  was."  The  decision 
states  further  that  the  other  sections  of  the  act  to  which  reference  has 
been  made  clearly  "do  not  in  express  terms^^  authorize  the  Commission  to 
require  the  creation  of  a  reserve  fund  to  renew  the  plants  when  the  same 
shall  be  worn  out  or  shall  become  obsolete.  It  is  not  pretended  by  any- 
body that  they  do." 

This  is  perfectly  true.  Such  authority  does  not  exist  in  express 
terms  and  the  appellate  Division  did  not  claim  so.  "The  power  of  the 
Public  Service  Commission  is  extensive, "  the  Court  of  Appeals  admits, 
"and  should  be  construed  in  the  same  spirit,  but  when  a  particular  power 
is  exercised  by  the  Commission  or  is  claimed  for  it,  that  power  should 
have  its  basis  in  the  language  of  the  state  or  should  be  necessarily  implied 
therefrom.''*^  Thus,  the  Appelate  Division  takes  as  a  basis  its  concep- 
tion of  the  general  purpose  of  the  statute,  while  the  Court  of  Appeals 
takes  as  its  basis  the  language  of  the  statute.    Reference  is  made  to 

''  The  majority  opinion  of  the  Court  in  this  case  was  written  by  Justice  J.  Smith. 
A  dissenting  opinion  was  filed  by  Justice  J.  Scott.  See  People  ex  rel.  New  York 
Railways  Company  vs.  Public  Service  Commission.  181  App.  Div.  N.  Y.,  338.  De- 
cided Jan.  18,  1918. 

"  Italics  not  in  original. 

*'  Italics,  not  in  text  of  opinion. 


134  CAPITAL  CONTROL  IN  NEW  YORK 

Matter  of  Quimby  vs.  Public  Service  Commission'^  in  which  the  same  court 
had  held  that  the  legislature  had  not  delegated  to  the  Public  Service 
Commission  the  power  to  increase  the  rates  of  fare  that  may  be  charged 
by  street  surface  railroads  in  the  city  of  Rochester,  "on  the  ground  that 
we  found  no  word^  in  the  statute  which  disclosed  a  legislative  intent  to 
delegate  such  power  to  the  Commission. " 

The  Rochester  case  was  held  to  be  controlling  in  the  New  York 
Railways  case. 

*"  Quimby  et  al.  vs.  Public  Service  Commission  223  N.  Y.,  244.    Decided  April 
5,  1918. 

*3  Italics  not  in  original. 


CHAPTER  Xn 

Miscellaneous  Considerations 

In  a  number  of  the  earlier  cases,  especially  in  the  Second  District, 
the  leading  issue  was  really  an  interpretation  of  the  PubUc  Service  Com- 
missions Law  upon  the  points  involved.  While  these  cases  may  not  be 
vital,  they  are  of  interest,  and  are  necessary  to  an  understanding  of  the 
development  of  Commission  control  of  capitalization  in  New  York  State, 

Securities  Cannot  be  Issued  to  Create  Surplus  or  Reserve  Funds 

An  interesting  question  came  up  in  connection  with  the  application 
of  the  Bronx  Gas  and  Electric  Company,^  previously  discussed. 

Among  the  purposes  mentioned  in  the  apphcation  for  which  the  pro- 
posed security  proceeds  were  to  be  appKed,  it  was  stated: 

that  it  is  necessary  in  the  operation  of  your  petitioner's  business  to  keep  and  maintain 
a  proper  surplus  fund  and  a  proper  reserve  fund  to  meet  various  contingencies  includ- 
ing the  repayment  of  deposits  made  by  customers,  and  it  is  the  purpose  of  your  peti- 
tioner to  apply  an  appropriate  proportion  of  said  loan  to  the  re-establishment  of  said 
funds.* 

The  Commission  held  that  the  Pubhc  Service  Commissions  Law  gave 
it  no  authority  to  approve  an  issue  of  bonds  to  be  used  to  create  surplus 
or  reserve  fimds.  A  further  portion  of  bonds  proceeds  were  to  be  used 
to  refimd  an  item  of  approximately  $24,000  of  taxes.  It  was  also  held 
that  the  objections  to  the  capitalization  of  taxes,  which  were  properly 
an  operating  expense,  were  obvious,  and  such  capitalization  would  not 
be  permitted  even  imder  unusual  circimistances. 

Issue  of  Stock  for  the  Purpose  of  a  Stock  Dividend 
Not  Legal 
Several  of  the  earher  cases  brought  up  the  matter  of  stock  dividends 
in  one  form  or  another.  The  Babylon  Electric  Light  Company  apphed' 
for  permission  to  issue  additional  capital  stock  to  the  extent  of  $60,000. 
Of  this  amount  $30,000  was  to  be  used  for  extensions  and  improvements 
to  its  plant.  An  investigation  showed  that  such  an  issue  was  justified, 
but  a  stipulation  was  added  that  some  proof  should  be  given  as  to  the 

^  Matter  of  Application  of  the  Bronx  Gas  and  Electric  Company,  2  P.S.C.R., 
1st  Dist.,  N.  Y.,  150.    Opinion  adopted  November  12, 1909. 

*  See  supra,  bottom  page  154. 

'Matter  of  Application  of  Babylon  Electric  Light  Com|>any,  1  P.S.C.R.,  2nd 
Dist.,  N.  Y.,  132.    Decided  March  9, 1908. 


136  CAPITAL  CONTROL  IN  NEW  YORK 

price  for  which  the  stock  would  be  issued.  Of  course,  the  stock  of  a 
public  utility  in  New  York  state  cannot  be  issued  for  less  than  par,  and 
this  requirement  of  the  Commission  referred  to  the  premiimi  which  might 
(or  might  not)  be  obtained.  The  amount  of  the  premium  should  be 
accounted  for  and  should  serve  to  cut  down  the  amoimt  of  stock  which 
would  need  to  be  issued. 

The  remaining  $30,000  was  to  be  issued  as  a  stock  dividend.  The 
outstanding  capital  stock  amounted  to  $15,000,  divided  into  three  hundred 
shares  of  $50  each.  The  petition  spoke  of  raising  the  present  three 
himdred  shares  to  nine  hundred  shares,  to  be  perfected  by  giving  each 
present  stockholder  two  additional  shares  of  stock  for  each  one  that  he 
then  held. 

Examination  showed  that  the  assets  were  worth  practically  $30,000 
above  any  indebtedness  or  present  capitalization,  and  that  during  a 
number  of  years  surplus  net  earnings  had  been  devoted  to  extensions  and 
improvements. 

It  was  not  and  could  not  be  claimed  that  the  issue  of  a  stock  dividend 
was  for  any  of  the  four  purposes  enumerated  in  the  Public  Service  Com- 
missions Law.  No  capital  would  be  procured  by  such  an  issue,  and  hence 
the  amount  to  be  secured  by  it,  that  is,  nothing,  could  not  be  reasonably 
required  for  any  of  the  purposes  mentioned.  Therefore,  it  was  held  that 
the  issue  of  a  stock  dividend  by  corporations  subject  to  the  jurisdiction  of 
a  Public  Service  Commission  was  not  legal.^ 

*  In  this  connection  an  interesting  discovery  of  a  stock  dividend  embedded  in  the 
existing  capitalization  of  a  company  was  furnished  in  the  course  of  the  proceedings 
uf)on  the  above  application  of  the  Bronx  Gas  &  Electric  Company.  The  outstanding 
securities  and  the  purposes  for  which  the  proceeds  were  expended  were  investigated. 
As  a  result,  the  Commission  was  convinced  that  a  certain  issue  of  stock  in  1905  was 
practically  a  stock  dividend.  In  May  1905,  2,160  shares  of  stock  (par  value  $216,000) 
were  issued  for  "property  and  services"  according  to  the  entries  in  the  stock  certificate 
book.  At  the  same  time  the  debit  balance  in  plant  account  had  been  increased  by 
$216,000  without  a  single  entry  to  show  what  the  sum  represented.  An  examination 
of  the  books  and  records  of  the  company  showed  that  each  stockholder  had  received 
eighty  per  cent  of  his  holdings  in  new  stock,  the  issue  thus  constituting  a  stock  divi- 
dend. The  equality  of  distribution  was  carried  to  such  an  extent  that  certain  stock- 
holders were  given  eight-tenths  of  a  share  and  certain  others  two-tenths  of  a  share. 

The  company  claimed  that  this  stock  was  issued  to  "James  Hennessey  &  Co. 
(the  original  construction  company)  his  assignees  and  transferees; "  that  it  was  issued 
for  "property  and  services,"  that  it  was  part  payment  for  the  plant  provided  by  the 
construction  company  at  the  very  beginning,  and  that  the  holders  of  the  stock  issued 
in  1905  had  a  claim  through  Hennessey  &  Company  as  a  part  of  the  stock  they  acquired 
to  further  stock  from  the  Bronx  Gas  &  Electric  Company. 


CAPITAL  CONTROL  IN  NEW  YORK  137 

Scrip  Dividends  Illegal  Under  the  Public  Service 
Commission  Law 

An  application  was  presented  by  the  Erie  Railroad  Company  to  the 
Second  District  Commission  for  authority  to  issue  its  interest-bearing 
warrants  evidencing  the  right  of  its  stockholders  to  dividends  on  its 
first  and  second  preferred  stock.*  The  Board  of  Directors  on  August  28, 
1907,  had  declared  a  dividend  of  2  per  cent  upon  its  first  preferred  stock, 
payable  October  1,  1917,  and  a  dividend  of  4  per  cent  upon  its  second 
preferred  stock,  payable  November  1st,  1917.  It  further  determined 
to  issue  interest-bearing-dividend  warrants  evidencing  the  right  of  the 
stockholders  to  dividends  so  declared,  subject  to  the  approval  of  the 
Public  Service  Commission. 

The  petition  filed  with  the  Commission  in  connection  therewith 
contained  the  statement  that  "it  is  inexpedient  and  incompatible  with 
the  best  interests  of  the  company  and  its  stockholders  that  the  dividends 
in  said  resolutions  referred  to,  be  paid  presently  in  cash,  or  otherwise  than 
by  the  issue  of  interest-bearing  dividend-warrants. " 

The  question  immediately  suggested  itself  whether  in  view  of  the 
provisions  of  Section  55  of  the  Public  Service  Commission's  law,  it  was 
within  the  power  of  the  company  to  declare  a  dividend  payable  more 

The  facts  were  that  the  said  construction  company  had  been  out  of  existence  for 
some  time  prior  to  1905,  and  that  not  a  single  share  of  the  2,160  had  been  delivered 
to  it.  Further,  the  applicant  could  not  produce  any  document  shoAsdng  an  order  or 
assignment  from  Hennessy  &  Co.  directing  that  stock  due  it  be  distributed  pro  rata 
to  the  then  stockholders. 

The  records  showed  that  not  one  dollar  was  paid  to  the  Bronx  Company  for  the 
stock,  and  no  voucher  was  rendered  for  any  expenditure,  that  no  acknowledgement  of 
the  payment  of  any  obligation  was  given  to  the  company,  and  that  nothing  went  into 
the  property  from  the  issue  of  the  stock,  nor  was  there  anything  to  show  that  the 
stockholders  rendered  any  services  or  transferred  any  property  to  the  Bronx  Company 
or  to  Hennessey  &  Company  which  would  legally  entitle  them  to  the  stock  they  re- 
ceived. The  conclusion  drawn  by  the  Commission  was  that  "the  whole  procedure  has 
all  the  earmarks  of  a  stock  dividend,  issued  because  earnings  were  becoming  too  large 
and  because  there  was  a  balance  in  the  depreciation  fund  of  $185,000,  and  a  surplus 
of  $30,000. 

The  Commission  felt  that  if  the  stock  issue  of  1905  had  been  sold  for  cash,  the 
Company  would  probably  not  now  need  to  apply  for  a  bond  issue,  and  that  it  was  a 
grave  question  as  to  whether  this  1905  stock  had  not  been  issued  illegally  in  view  of 
the  provisions  of  the  stock  corporations  law  which  provides  that  all  stock  issued  shall 
be  for  value  received. 

*  Matter  of  Petition  of  Erie  Railroad  Company  for  authority  to  issue  scrip  divi- 
dends, 1  P.S.C.R.,  2nd  Dist.,  N.  Y.,  115.    Decided  February  27, 1908. 


138  CAPITAL  CONTROL  IN  NEW  YORK 

than  one  year  after  its  declaration  and  to  issue  interest-bearing  warrants 
evidencing  the  same,  and  also  the  further  question  whether  if  the  com- 
pany possessed  such  power  the  assent  of  this  Commission  to  its  exercise 
was  necessary  under  the  provisions  of  Section  55  of  the  Public  Service 
Commissions  Law. 

This  section  read  as  follows: 

A  railroad  corporation  organized  or  existing  under  or  by  virtue  of  the  laws  of  the 
State  of  New  York,  may  issue  stocks,  bonds,  notes  or  other  evidences  of  indebtedness, 
payable  at  periods  of  more  than  twelve  months  after  the  date  thereof,  when  necessary 
for 

the  acquisition  of  property, 

the  construction,  completion,  extension  or  improvement  of  its  facilities, 

the  improvement  or  maintenance  of  its  service,  or 

the  discharge  or  lawful  refunding  of  its  obligations,  provided,  and  not  otherwise, 
that  there  shall  have  been  secured  from  the  proper  commission  an  order  authorizing 
such  issue  and  the  amount  thereof,  and  stating  that,  in  the  opinion  of  the  commission 
the  iise  of  the  capital  to  be  seciured  by  the  issue  of  such  stocks,  bonds,  notes  or  other 
evidences  of  indebtedness  is  reasonably  required  for  the  said  purposes  of  the  corpora- 
tion.* 

The  interest  bearing  warrants  mentioned  in  the  appHcation  were 
evidences  of  indebtedness,  and  they  were  payable  more  than  one  year 
after  date,  hence  they  came  under  the  category  of  Section  55,  according 
to  which  evidences  of  indebtedness  may  be  issued  only  when  necessary 
for  one  of  the  four  purposes  named  therein.  And,  in  addition,  the  Com- 
mission must  be  able  to  say  truthfully  that  the  use  of  the  capital  to  be 
secured  is  reasonably  necessary  for  such  purposes. 

In  the  making  of  an  Order  authorizing  an  issue  of  securities,  three 
elements  seemed  to  the  Commission  to  be  essential,  as  follows: 

That  capital  is  to  be  secured  by  the  issue; 

That  the  issue  of  such  stock,  bonds,  or  other  evidences  of  indebtedness  is  necessary 
to  obtain  such  capital  for  one  or  more  of  the  four  purposes  enumerated; 

That  the  amount  authorized  is  reasonably  required  for  one  or  more  of  such  pur- 
poses. 

A  scrip  dividend,  the  Commission  held,  was  not  even  a  dividing  of 
the  surplus  of  a  corporation,  but  merely  a  promise  to  pay  at  some  future 
time.  By  the  declaration  of  a  scrip  dividend  the  company  secured 
nothing  which  it  did  not  possess  before.  For  a  dividend  is  a  parting 
with  capital,  a  dividing  of  property  among  stockholders,  and  is  the 
direct  opposite  of  the  securing  of  capital.  Warrants  evidencing  a 
scrip  dividend,   therefore,   secure  no  capital.     Furthermore,  such  an 

•  Chapter  480,  Laws  of  1910.     Italics  not  in  ori  ginal. 


CAPITAL  CONTROL  IN  NEW  YORK  139 

issue  could  not  be  considered  reasonably  necessary  for  one  or  more  of  the 
purposes  enumerated,  because  after  their  issue  the  directors  would  have 
no  more  power  to  use  the  surplus  involved  than  they  had  before  and 
nothing  would  then  be  possible  which  would  not  have  been  possible  before. 

It  might  be  thought,  the  Commission  argued,  that  a  scrip  dividend 
was  a  loan  from  the  stockholders  of  the  amount  of  their  dividend,  upon 
which  interest  is  paid.  But  a  scrip  dividend  is  not  a  loan.  A  loan  would 
be  a  receiving  of  something  from  the  stockholders  with  their  consent,  but 
this  was  not  the  case  here.  This  was  simply  a  promise  to  pay  something 
in  the  future,  but  nothing  was  received  from  the  stockholders  and  nothing 
was  taken  from  the  company.  Such  a  promise  was  clearly  not  necessary 
for  any  purpose. 

The  issuing  of  these  evidences  of  indebtedness  would  not  have  been 
necessary  for  the  acquisition  of  property,  the  construction,  completion, 
extension  or  improvement  of  the  facilities  of  the  company,  or  for  the 
improvement  or  maintenance  of  the  service,  for  the  simple  reason  that 
every  dollar  of  the  surplus  was  already  available,  at  the  discretion  of  the 
directors,  for  these  purposes.  There  remained  only  the  discharge  or 
lawful  refimding  of  obligations.  This  would  imply  the  pre-existence  of 
an  obligation  to  be  discharged  and  not  the  creation  of  one,  but  these 
warrants  would  represent  the  creation  of  an  obligation  by  the  directors 
at  the  time  of  their  issuance  and  could  not  from  any  point  of  view  repre- 
sent the  acquiring  by  the  company  of  any  value  or  property  which  it 
did  not  previously  possess.  The  petition  was  denied  upon  the  ground 
that  the  issue  of  the  securities  was  not  for  any  of  the  purposes  enumerated 
in  the  Public  Service  Commissions  Law. 

There  remained  the  question  as  to  whether  the  company  could  issue 
such  warrants  without  the  consent  of  the  Commission.  It  was  held 
by  the  Commission  that  as  the  Law  enumerated  certain  purposes  for 
which  securities  running  for  a  longer  period  than  one  year  could  be 
issued,  and  as  in  common  law  the  mention  of  one  thing  implies  the  ex- 
clusion of  others,  such  warrants  could  not  issue  without  its  permission. 

Security  Issues  for  the  "Reimbursement  of  the  Treasury"  of  a 
Corporation  Illegal  under  the  Original  Act. 

The  Lehigh  and  Hudson  River  Railway  Company  in  applying  for 
consent  to  the  issue  of  bonds  in  the  sum  of  $300,000  stated  the  purposes 
for  which  it  intended  to  use  the  bonds  in  the  following  language: 


140  CAPITAL  CONTROL  IN  NEW  YORK 

and  the  purposes  for  which  said  bonds  are  to  be  used  are  to  reimburse  your  petitioner 
in  part  for  the  amounts  paid  by  it  for  and  on  accoimt  of  the  construction,  purchase 
and  acquisition  of  said  Orange  County  Railroad  as  aforesaid  J 

The  applicant  had  advanced  large  sums  for  the  construction  of  the 
property  of  the  latter  company,  a  part  of  which  had  been  repaid  in 
capital  stock  of  the  Orange  Company.  This  still  left  indebtedness  to 
the  applicant  of  $320,000,  to  cancel  which  it  had  sold  to  the  applicant  its 
entire  line  of  road  by  means  of  a  merger  just  prior  to  the  taking  effect  of 
the  Public  Service  Commissions  Law.  Hence,  appHcant  had  been  fully 
paid  for  the  money  advanced  by  the  transfer  of  the  road.  The  transac- 
tion was  ended,  and,  in  the  opinion  of  the  Commission,  the  corporation 
was  seeking  permission  to  borrow  $300,000  to  reimburse  itself  for  money 
loaned  to  another  company,  which  money  had  been  wholly  paid  by  the 
transfer  of  the  property  of  the  other  company. 

The  applicant  company  seemed  to  have  no  clear  idea  as  to  the  theory 
upon  which  the  bonds  were  to  be  issued.  In  another  place  in  the  original 
petition,  it  stated: 

The  said  bonds  are  to  be  retained  in  the  Treasury  of  the  said  Railway  Company, 
and  are  only  to  be  disposed  of  as  the  conditions  may  from  time  to  time  require  in  the 
construction  of  additional  sidings,  double  tracking  the  main  line  of  said  railway,  con- 
structing new  shops  and  engine  houses,  and  for  the  purchase  of  new  equipment.* 

Because  of  the  lack  of  definiteness  as  to  the  purpose  for  which  the 
money  was  to  be  used,  a  second  hearing  was  ordered.  The  applicant 
then  presented  satisfactory  evidence  of  the  existence  of  promissory  notes 
executed  by  it  to  the  amount  of  $162,000,  and  of  a  proposed  installation 
of  equipment  of  an  amount  which  brought  the  total  to  $270,000,  to  be 
used  for  purposes  clearly  within  the  terms  of  Section  55. 

However,  there  was  still  no  proof  offered  as  to  the  proposed  use  of  the 
remaining  $30,000,  and  the  application  was  denied  to  this  extent  because 
of  such  lack  of  proof. 

It  was  thought  by  many  that  a  Commission,  under  Section  55,  might 
permit  a  corporation  to  issue  bonds  to  reimburse  itself  for  money  which 
it  had  previously  taken  from  its  treasury  and  expended  for  lawful  pur- 
poses. The  Commission  was  convinced  from  a  careful  examination  of 
the  language  of  the  section  that  money  secured  from  the  sale  of  securities 
must  be  used  for  specific  purposes,  and  only  in  amounts  reasonably  re- 
quired for  those  purposes.    The  Commission  held  as  follows: 

^Matter  of  Petition  of  Lehigh  and  Hudson  River  Railway  Company,  1  P.S.C.R., 
2nd  Dist.,  N.  Y.,  224.    Decided  May  7, 1908. 

« See  1  P.S.C.R.,  2nd  Dist.,  N.  Y.,  Middle  of  page  227 


CAPITAL  CONTROL  IN  NEW  YORK  141 

Money  to  be  acquired  from  the  sale  of  stocks,  bonds,  or  other  evidence  of  indebted- 
ness, payable  at  a  period  of  more  than  twelve  months  after  the  date  thereof,  is  money 
seciired  by  capitalization,  and  the  spirit  of  the  act  (Public  Service  Commissions  Law) 
is  to  control  capitalization;  to  see  that  it  is  made  only  for  certain  legitimate  purposes, 
and  then  only  to  an  amount  that  is  necessary  for  the  reasonable  accomplishment  of 
such  purposes." 

There  were  many  corporations  who  had  upon  their  properties  general 
mortgages,  imder  the  terms  of  which,  and  in  the  manner  therein  specified, 
they  could  go  ahead  and  improve  the  mortgaged  property  with  moneys 
taken  from  their  treasuries,  and  then,  when  such  improvements  had  been 
made,  they  could  apply  to  the  trustee  of  the  mortgage  for  an  issue  of 
bonds  to  reimburse  their  treasury  by  showing  to  the  satisfaction  of  said 
trustee  that  the  amoimt  of  bonds  applied  for  had  been  expended  upon  the 
property.  Under  such  an  issue  of  bonds,  the  proceeds  could  be  used  by 
the  corporation  for  any  purpose,  even  the  declaration  of  dividends. 

It  was  felt  that  under  the  interpretation  of  Section  55  as  given  above, 
such  issues  of  bonds  would  be  rendered  impossible  and  much  confusion 
caused  in  a  large  number  of  securities.  The  fact  was  that  the  corpora- 
tion could  still  go  to  its  mortgage  trustee,  and,  upon  proof  of  additional 
investment  in  the  property,  receive  its  bonds.  That  is,  it  could  get  them, 
as  far  as  the  trustee,  representing  the  mortgagee,  was  concerned.  But 
the  corporation  now  (since  the  enactment  of  the  Public  Service  Commis- 
sions Law)  had  an  additional  step  to  take.  It  must  also  obtain  the 
approval  of  the  proper  Commission,  and  the  Commission,  to  grant  such 
approval,  must  be  convinced  that  the  capital  involved  was  to  be  used  for 
one  or  more  of  the  purposes  enumerated  in  the  statute. 

The  Commission,  in  discussing  this  matter,  expressed  the  opinion 
that  the  anticipated  difficulties  were  more  imaginary  than  real.  The 
freedom  of  the  corporation  in  getting  bonds  from  its  mortgage  trustee, 
the  Commission  held,  was  certainly  curtailed  in  that  the  proposed  use  to 
which  the  proceeds  were  to  be  put  must  be  stated  and  must  conform  to 
the  purpose  allowed  in  the  act.  But,  on  the  other  hand,  it  was  pointed 
out,  the  latitude  actually  resulting  under  these  four  purposes  was  so  wide, 
that  practically  the  only  other  purpose  for  which  a  corporation  could 
wish  to  use  the  money  would  be  to  declare  dividends. 

The  present  case  (Lehigh  and  Hudson  River  Railway  case)  was  held 
to  be  an  instance  in  point.  The  appHcant  corporation  had  made  its 
original  petitition  upon  the  basis  of  reimbursement  of  the  Treasury,  but 
when  this  was  not  recognized,  the  company  was  immediately  able  to 

•  See  1  P.S.C.R.,  2nd  Dist.,  N.  Y.,  Middle  page  229. 


142  CAPITAL  CONTROL  IN  NEW  YORK 

make  a  case  entitling  it,  in  conformity  with  the  requirements  of  the 
statute  mentioned  above,  to  an  issue  of  $270,000  out  of  a  total  of  $300,000 
originally  requested.^" 

Expenditures  for  Other  Than  Capital  Purposes 
Should  be  Met  from  Earnings 
A  similar  case  involving  reimbursement  of  the  Treasury  occurred 
in  the  Matter  of  the  Application  of  the  Bronx  Gas  &  Electric  Company 

^0  This  view  had  apparently  been  followed  by  the  Second  District  Commission  in 
framing  its  Rule  of  Procedure  No.  25,  which  read  as  follows: 

"Applications  under  Section  55,  for  authorization,  etc.  continued — The  order 
granting  an  application,  or  any  part  thereof,  under  Section  55,  shall  contain  the  fol- 
lowing provisions: 

1.  "Prescribing  the  purposes  for  which  the  proceeds  of  the  security  or  obligation 
authorized  shall  be  used. 

2.  "Directing  the  applicant  to  report  vmder  oath  the  sale  or  sales  of  the  obligations 
authorized,  t^e  terms  and  conditions  of  such  sale,  and  the  amoimt  realized  tnerefrom. 

3.  "That  the  applicant  shall  make  a  verified  report  at  least  once  every  six  months 
showing  in  detail  the  use  and  application  by  it  of  the  moneys  so  realized,  until  such 
moneys  shall  have  been  fully  expended. 

4.  "  Such  other  provisions  as  the  Commission  may  deem  necessary  or  appropriate 
in  each  case. 

As  the  Commission  pointed  out,  if  bonds  could  be  issued  and  sold  for  the  purpose 
simply  of  "Reimbursement  of  the  Treasury"  paragraph  1  of  the  rule  would  have 
no  application;  in  the  same  way  Paragraph  3  would  be  meaningless,  as  its  whole  pur- 
pose was  to  make  certain  that  the  money  derived  from  the  security  issues  should  be 
applied  to  the  specific  purposes  for  which  they  had  been  approved  in  conformity  with 
the  purposes  enumerated  in  the  Public  Service  Commission  Act. 

See  also  Matter  of  Application  of  the  New  York  Edison  Company,  5  P.S.C.R., 
1st  Dist.,  N.  Y.,  132.  Opinions  filed  March  3,  1914.  This  application  for  approval 
of  the  issue  of  stock  was  based  upon  a  reimbursement  of  notes  issued  by  the  applicant 
to  the  ConsoUdated  Gas  Company  for  funds  advanced  by  the  latter.  Commissioner 
Maltbie,  in  his  opinion,  criticised  the  lack  of  definiteness  as  follows:  .  .  .  "Up  to  this 
time  the  company's  officials  have  professed  their  inability  to  determine  the  precise 
use  made  of  the  moneys  thus  advanced  by  the  controlling  company.  In  their  last 
annual  report  to  the  Commission  they  have  not  returned  any  of  the  amount  under  the 
caption,  '  Due  Associated  companies  for  Construction  Advanced. '  On  the  contrary, 
they  stated  that  '  the  money  was  not  borrowed  for  any  specific  purpose  but  was  de- 
posited in  general  cash  fund  and  used  to  liquidate  current  debts.  It  is  impossible  to 
identify  it  with  any  particular  class  of  expenditure. '  It  scarcely  needs  to  be  said  that 
this  loose  method  of  accounting  for  funds  advanced  by  one  company  to  another  does 
not  furnish  a  satisfactory  basis  for  a  balance  sheet  or  for  an  application  to  a  public 
authority  for  approval  of  new  security  issues.  Money  should  be  appropriated  for 
specific  purposes  and  duly  accounted  for  in  accordance  with  the  official  declaration  of 
purpose.  The  separation  of  working  advances  from  construction  advances  is  carefully 
made  on  the  balance  sheets  prescribed  by  the  Interstate  Commerce  Commission  as 
well  as  this  Commission,  and  is  necessary  for  the  prompt  disposition  of  cases  like  the 
the  present." 


CAPITAL  CONTROL  IN  NEW  YORK  143 

for  approval  of  an  issue  of  bonds."  It  appeared  that  a  portion  of  the 
proposed  issue  was  to  reimburse  the  Treasury  for  $31,000  of  notes  that 
had  been  paid  oflF  some  time  before.  The  Commission  held  that  it 
could  not  and  should  not  approve  the  issuance  of  bonds  to  pay  oflf  notes 
that  had  already  been  paid,  as  the  money  could  not  be  used  for  the  pur- 
pose stated.  As  to  $35,000  of  notes  still  outstanding  and  which  it  was 
desired  to  pay  off  with  a  part  of  the  proceeds  of  the  proposed  issue,  no 
convincing  evidence  was  presented  to  show  that  the  debt  had  been 
incurred  for  capital  purposes.  The  Commission  held  that  "when  a  com- 
pany is  unable  to  prove  that  an  expenditure  was  made  for  a  capital  pur- 
pose, the  safe  and  prudent  course  should  be  pursued  of  requiring  the 
company  to  pay  it  out  of  earnings."^ 

Reimbursements  of  the  Treasury  as  Permitted 

by  the  1910  Amendment 

In  this  connection  the  Central  Hudson  Gas  &  Electric  Company,  in 

July,  1912,  apphed  for  permission  to  issue  stock  to  the  amount  of  $216,000 

for  the  reimbursement  of  its  Treasury.^^    Of  this  amount  it  was  intended 

"  In  a  similar  case  (The  Matter  of  the  Application  of  the  Niagara  Light,  Heat  & 
Power  Co.,  2  P.S.C.R.,  2nd  Dist.,  N.  Y.,  90,  (decided  June  29,  1909)  the  Commission 
objected  to  an  item  of  $12,000  because  of  lack  of  definiteness,  and  expressed  itself  as 
follows: 

"It  is  not  shown  specifically  by  the  evidence  for  what  purposes  this  indebtedness 
was  incurred.  Any  general  evidence  that  it  was  used  for  additions  and  betterments 
amoimts  to  nothing.  The  circumstances  of  the  case  require  that  the  applicant  show 
clearly  and  positively,  before  the  application  is  granted  in  this  particular,  that  this 
indebtedness  was  incurred  for  proper  capitalization  purposes  and  not  merely  for  the 
purpose  of  paying  operating  expenses. " 

Again  in  the  Binghamton  case,  2  P.S.C.R.,  2nd  Dist.,  N.  Y.,  171,  (decided  August 
4,  1909),  a  part  of  the  bonds  were  asked  for  purposes  of  refunding;  the  remainder  of 
the  amount  asked  for,  consisting  of  both  stocks  and  bonds,  was  $230,000.  Of  the 
proceeds  only  $158,000  were  required  to  pay  outstanding  notes.  What  was  to  be 
done  with  the  remainder?  The  application  pointed  out  nothing  which  came  within 
the  purposes  enumerated  in  the  law.  The  company  desired  to  acquire  no  property; 
it  did  not  ask  to  improve  or  extend  its  plant  or  distributing  system;  it  suggested 
nothing  for  improvement  or  maintenance  of  its  service;  it  named  no  obligations.  The 
company  apparently  desired  to  accomplish  a  reimbursement  of  its  treasury,  as  the 
alleged  indebtedness  was  not  owing  to  third  parties,  but  to  itself.  Hence  it  came 
imder  the  principle  laid  down  in  the  Lehigh  and  Hudson  River  Railway  case. 

"  Matter  of  Application  of  the  Bronx  Gas  and  Electric  Company,  2  P.S.C.R., 
1st  Dist.,  N.  Y.,  178.    Opinion  adopted  January  14,  1910. 

"  Capitalization  of  Penalty  Disapproved 

In  connection  with  the  above,  we  might  cite  the  application  of  the  New  York 
Dock  Railway  Company,  a  subsidiary  corporation  of  the  New  York  Dock  Company, 


144  CAPITAL  CONTROL  IN  NEW  YORK 

to  distribute  $116,000  as  a  stock  dividend  of  10  per  cent  to  its  stockhold- 
ers of  record,  and  to  place  the  balance  of  $100,000,  par  value,  in  the 
hands  of  trustees  to  be  used  for  the  benefit  of  its  employees  as  set  forth 
in  an  agreement  of  trust. 

It  was  held  that  the  company  could  not  issue  stock  for  any  purpose 
whatever  except  upon  order  of  the  Commission,  and  that  the  latter 
could  only  approve  an  issue  for  the  purposes  enumerated  in  the  capital- 
ization sections  of  the  Public  Service  Commissions  Law.  The  two  cases 
previously  discussed  in  this  cormection  were  cited  to  the  effect  that  the 
payment  of  stock  dividends  was  not  one  of  the  purposes  for  which 
capital  stock  or  obligations  in  the  form  of  dividends-warrants  could  be 
issued  under  the  statute.^^ 

The  second  purpose,  the  devoting  of  $100,000  of  the  proceeds  of  the 
proposed  stock  to  the  establishment  of  a  benefit  fund  for  employees, 
"though  entirely  commendable  in  itself,"  the  Commission  held  was  not 
a  purpose  of  capitalization  enumerated  in  the  Law  for  which  stock  could 
be  issued,  although  it  was  granted  that  the  company  was  entitled  to 
create  from  its  income  a  trust  fund  for  the  benefit  of  its  employees. 

By  an  amendment  to  the  Public  Service  Commissions  Law  adopted 
in  1910  there  was  added  to  the  capitalization  sections  of  the  Law  a  clause 
relating  to  stock  or  bond  issues  for  the  purpose  of  reimbursement  of 
monies  actually  expended  from  income  or  other  treasury  funds,  except 
for  maintenance  of  service  and  replacements.  This  amendment,  how- 
ever, the  Second  District  Commission  held  in  the  Central  Hudson  Gas 

which  asked  authority  to  apply  the  proceeds  of  a  proposed  issue  of  stock  to  the  dis- 
charge of  obligations  incurred  by  it  in  the  sum  of  $6,250,  as  payment  for  the  past  use 
and  operation  of  the  streets  by  railroad  tracks  previously  operated  by  the  New  York 
Dock  Company.  The  latter  had  possessed  no  franchise  for  such  use  of  the  streets. 
The  city,  knowing  the  intiniate  relations  existing  between  the  Dock  Company  and  the 
Dock  Railway,  had  made  the  palyment  of  compensation  for  this  illegal  operation  of 
the  streets  by  the  Dock  Company  a  condition  of  the  granting  of  a  franchise  to  the 
Dock  Railway  Company,  instead  of  attempting  to  collect  from  the  Dock  Company 
through  the  courts,  as  this  would  have  held  up  the  operation  of  the  property  by  the 
Dock  Railway  Company. 

The  First  District  Commission  held  that  expenditure  for  such  purposes,  relating 
to  a  period  prior  to  the  formation  of  the  applicant  corporation,  could  not  be  capitalized, . 
as  such  action  would  be  tantamoimt  to  the  capitalization  of  property  which  had  ceased 
to  exist.    See  Matter  of  Application  of  the  New  York  Dock  Railway,  4  P.S.C.R., 
1st  Dist.,  N.  Y.,  94.    Opinion  adopted  March  28,  1913. 

"  Matter  of  Application  of  Central  Hudson  Gas  and  Electric  Company,  3  P.S.C.R., 
2nd  Dist.,  N.  Y.,  380.    Decided  July  16,  1912. 


CAPITAL  CONTROL  IN  NEW  YORK  145 

and  Electric  case,  referred  to  property  acquisitions  or  property  improve- 
ments or  betterments,  and  in  no  sense  to  the  absorption  of  a  company's 
book  surplus  by  the  issuance  of  stock  as  a  dividend  or  of  stock  to  obtain 
monies  with  which  to  set  up  a  benefit  fund. 

The  Commission  here  took  occasion  to  define  the  application  of  the 
reimbursement  clause  and  its  non-relation  to  dividends.  If,  it  held, 
an  issue  of  stock  was  approved  to  reimburse  the  treasury  of  the  com- 
pany for  money  expended  from  income  on  improvements  or  betterments 
of  its  property,  and  the  monies  were  restored  to  the  treasury  of  the  com- 
pany, the  board  of  directors  of  the  company  could  then  determine 
whether  or  not  such  monies  might  properly  be  used  for  dividend  pur- 
poses. It  was  true  that  stock  authorized  to  be  issued  and  sold  for  account 
of  reimbursement  could  be  sold  to  the  stockholders  of  the  company  and 
the  proceeds  immediately  declared  as  a  dividend  to  the  stockholders  of 
the  company,  and  so  in  effect  be  a  stock  dividend.  This,  it  was  held, 
would  be  in  accordance  with  the  law,  and  for  a  purpose  prescribed  in  the 
law,  that  of  reimbursement,  and  in  the  eyes  of  the  law  would  not  be  a 
stock  dividend. 

The  Law  as  originally  passed  in  1907  had  been  generally  regarded  as 
defective  in  that  a  company  subject  to  its  provisions  was  unable  to  return 
to  its  treasury  by  stock  or  bond-issue  funds  which  it  had  expended  from 
income  for  improvements  or  extensions.  Permission  to  issue  securities 
for  such  purposes  could  have  been  obtained  before  the  expenditures 
were  made,  or,  if  short-tem  obligations  had  been  issued  for  them,  securi- 
ties could  then  be  issued  for  the  refunding  or  discharging  of  these  obliga- 
tions. Simple  reimbursement  of  the  treasury,  however,  was  not  per- 
mitted. By  the  1910  amendment  it  was  sought  to  remedy  this  defect 
and  permit  reimbursement  of  a  company's  treasury  whenever  it  could 
show  clearly  that  the  original  expenditure  has  been  made  for  purposes 
enumerated  in  the  Law. 

Privilege  of  Issuing  Evidences  of  Indebtedness  for  Twelve  Months 
or  Less  is  not  to  be  Used  as  a  Subterfuge 

The  Public  Service  Commissions  Law  allows  the  issue  of  evidences 
of  indebtedness  for  twelve  months  or  less  without  the  consent  of  the 
Commission,  but  such  a  provision  is  intended  for  purposes  of  temporary 
emergency,  and  not  as  an  excuse  and  a  means  for  the  later  issuing  of  long- 
term  bonds  without  the  consent  of  the  Commission. 

In  July,  1908,  a  joint  application  was  made  to  the  First  District  Com- 
mission for  the  execution  of  mortgages  to  secure  demand  certificates  by 


146  CAPITAL  CONTROL  IN  NEW  YORK 

the  Nassau  Electric  Railroad  Company  to  the  amount  of  $5,000,000,  and 
by  the  Brooklyn  Union  Elevated  Railroad  Company  to  the  amount  of 
$20,000,000.15 

The  Brooklyn  Rapid  Transit  Company,  which  controlled  both  the 
applicants,  had  in  1902,  executed  to  the  Central  Trust  Company  as  trus- 
tee, a  100-year  mortgage  to  secure  bonds  to  the  amount  of  $150,000,000. 
In  connection  with  the  mortgages  apphed  for,  the  applicants  had  entered 
into  an  agreement  with  the  Brooklyn  Rapid  Transit  Company  by  the 
terms  of  which  monies  needed  by  the  apphcants  were  to  be  furnished 
through  demand  certificates  sold  to  the  Brooklyn  Rapid  Transit  Com- 
pany. The  latter  agreed  to  buy  the  same  from  time  to  time  and  was 
then  to  take  them  to  the  Central  Trust  Company  and  receive  from  the 
latter  authentication  and  dehvery  to  it  of  100-year  bonds  of  the  Brooklyn 
Rapid  Transit  Company  secured  by  the  $150,000,000  mortgage  above 
mentioned. 

The  Commission  held  in  this  case  that  while  the  issue  of  evidences  of 
indebtedness  maturing  in  twelve  months  or  less  was  not  within  its 
jurisdiction,  the  subsequent  use  made  of  them  in  the  plan  outlined,  that 
is,  the  issuing  of  such  certificates  pledged  by  mortgages  and  the  sub- 
sequent pledging  of  the  same  as  security  for  the  issue  of  100-year  bonds  of 
the  Brooklyn  Rapid  Transit  Company  would  constitute  an  evasion  of 
Section  55  of  the  Public  Service  Commissions  Law,  and  that  the  Commis- 
sion in  its  duty  of  supervising  the  capitalization  of  all  pubhc  service 
corporations  within  its  jurisdiction,  should  refuse  consent  to  such  mort- 
gages. Such  a  plan,  it  was  held,  might  be  used  to  nullify  the  power  of 
the  Commission  in  respect  of  its  control  over  issues  of  long  term  bonds. 

Another  closely  related  case  was  the  application  of  the  Delaware  & 
Hudson  Railroad  for  permission  to  refund  certain  notes  coming  under 
the  "twelve  months  or  less"  classification.  They  amounted  in  the 
aggregate,  to  about  twenty  million  dollars,  and  extended  over  a  period 
of  three  and  one-half  years,  many  of  them  having  been  renewed  from 
time  to  time. 

It  appeared  that  many  corporations  in  New  York  State  had  gotten 
into  the  habit  of  contracting  large  amounts  of  indebtedness  by  means 
of  note  issues  maturing  in  periods  of  twelve  months  or  less.    These 

"  Matter  of  Application  of  the  Brooklyn  Union  Elevated  Railroad  Company, 
1  P.S.C.R.,  1st  Dist.,  N.  Y.  277.  Also  Matter  of  Application  of  the  Nassau  Electric 
Railroad  Company  (same  ref.).     Opinion  adopted  July  17,  1908. 

See  Babylon  case,  1  P.S.C.R.,  2nd  Dist.,  N.  Y.  132,  and  Erie  case,  1  P.S.C.R. 
2nd  Dist.,  N.  Y.  115,  referred  to  previously. 


CAPITAL  CONTROL  IN  NEW  YORK  147 

issues  would  be  renewed  in  whole  or  in  part  for  another  Uke  period.  The 
renewals  were  often  accompanied  by  additions  to  existing  indebtedness 
of  other  large  note  issues.  Such  renewals,  part  payments  and  increases 
were  continued  indefinitely.  With  a  large  part  of  the  proceeds  of  such 
notes  there  was  often  carried  on  a  series  of  operations  covering  the 
acquisition  of  land,  railways  or  parts  thereof,  stocks  or  bonds  of  railroad 
companies,  track  construction,  sidings,  terminals,  purchase  of  equip- 
ment, etc.  In  such  cases  the  accounts  of  the  disposition  of  proceeds  of 
the  notes  were  so  thoroughly  confused  with  general  treasury  disburse- 
ments, particularly  as  regarded  construction  and  equipment,  that  the 
separation  of  such  accounts  was  either  impossible  or  required  months  of 
work. 

The  "twelve  months  or  less"  privilege,  the  Commission  held,  was 
for  the  purpose  of  enabling  a  corporation  to  contract  temporary  loans 
which  should  be  met  at  maturity  and  not,  to  quote  from  the  opinion  in 
this  case, 

to  operate  as  a  license  whereby,  through  successive  renewals  with  extensive  additions 
of  new  short-time  notes  issued  (the  amounts  frequently  combined  together  in  one  or 
several  notes),  a  huge  mass  of  obligations  running  over  a  series  of  years  is  piled  up  to 
become  eventually  the  subject  of  application  for  leave  to  ftmd  by  mortgage  and  an 
issue  of  long-time  bonds." 

The  Commission  held  that  even  granting  that  there  existed  a  technical 
legal  right  to  fund  such  notes  by  new  issues  of  other  notes  and  the  apphca- 
tion  of  their  proceeds  to  the  discharge  of  the  old  notes  falling  due,  there 
must  be  a  limit,  in  practice,  to  the  exercise  of  such  a  right.  When  such  a 
plan  was  carried  to  the  extent  of  covering  several  times  of  maturity  and 
extending  through  several  years,  the  Commission  said, 

it  is  evident  that  the  intent  of  the  law  is  being  evaded,  and  that  the  corporation  is 
accomplishing  by  indirection  that  which  the  law  forbids  shall  be  done  directly,  namely, 
the  issuing  of  evidences  of  indebtedness  carried  without  actual  payment  throughout 
a  period  of  more  than  twelve  months  without  first  obtaining  the  approval  of  this 
Commission." 

Under  such  practice  the  application  of  the  money  derived  from  the 
note  issues  often  dated  so  far  back  and  had  become  so  intermingled  with 
expenditures  from  other  sources  which  might  have  been  applied  to  the 
same  purposes,  that  it  was  impossible  to  determine  whether  the  money 
so  expended  had  been  for  value  and  for  the  purposes  prescribed  in  the 

"  Matter  of  Application  of  The  Delaware  and  Hudson  Company,  1  P.S.C.R., 
2nd  Dist,  N.  Y.  242.    Decided  July  7,  1908. 

"  See  1  P.S.C.R.,  2nd  Dist.,  N.  Y.    Bottom  page  267  and  middle  page  268. 


148  CAPITAL  CONTROL  IN  NEW  YORK 

statute.  The  applicant  corporation  itself  was  often  unable  to  make  the 
complete  showing  contemplated  in  the  statute  because  of  the  failure  to 
keep  accurate  accounts  of  the  apphcation  of  the  proceeds  of  such  short 
time  loans,  and  a  detailed  record  of  unit-costs  for  construction  and  im- 
provement, as  distinguished  from  maintenance.  In  such  cases  the  Com- 
missions had  no  satisfactory  evidence  upon  which  they  could  assert  that 
a  proposed  security  issue  for  the  refunding  of  such  short  time  obligations 
was  reasonably  required  for  the  purposes  of  the  statute.  Hence  an 
apphcation  might  have  to  be  denied,  and  the  corporation,  in  effect, 
penalized,  or,  at  least,  deprived  of  rehef  to  which  it  might  actually  be 
entitled  under  the  Law. 

The  Second  District  Commission  suggested  that  in  a  case  where 
such  short  time  loans  were  about  to  mature,  and  an  extension  was 
deemed  necessary,  application  should  be  made  to  the  Commission  for 
permission  to  issue  notes  running  for  more  than  a  year  to  cover  the  matur- 
ing issues,  or  else,  issue  stock  or  bonds.  The  disbursements  under 
review  would  then  be  so  recent  that  the  purposes  to  which  they  had  been 
apphed  could  readily  be  ascertained.^^ 

1'  In  another  instance,  the  Consolidated  Gas  Company  of  New  York  City  had 
advanced  money  to  the 'Astoria  Light,  Heat  and  Power  Company  to  the  amount  of 
$14,200,000  upon  6  per  cent  notes.  (See  Matter  of  Application  of  the  Astoria  Light, 
Heat  and  Power  Company,  5  P.S.C.R.,  1st  Dist.,  N.  Y.,  122.  Opinions  filed  March  3, 
1914.)  The  First  District  Commission  had  its  accounting  stafiE  make  an  examination 
for  the  purpose  of  ascertaining  whether  or  not  the  proceeds  of  these  notes  had  been 
applied  for  purposes  properly  chargeable  to  capital.  On  account  of  the  magnitude 
of  the  expenditures  and  the  mass  of  vouchers  to  be  examined  the  Commission's 
engineers  and  accountants  adopted  what  is  known  in  statistics  as  the  "  sampling  "  pro- 
cess. In  this  way  they  investigated  and  checked  up  about  70  per  cent  of  the  vouchers 
containing  the  essential  items.  These  vouchers,  they  testified,  had  been  selected  at 
random  and  without  any  suggestions  from  the  officials  of  the  Company.  The  repre- 
sentatives of  the  Commission  testified  that  each  item  examined  was  found  to  be  a 
reasonable  charge  for  the  property,  services  or  labor  received  or  performed;  that  each 
item  had  been  required  for  the  immediate  supply  of  gas  and  was  an  addition  or  better- 
ment to  the  company's  property.  The  majority  opinion  held  that  such  a  check  upon 
the  application  was  suflUcient  without  going  into  the  full  100  per  cent  of  the  amount. 
Commissioner  Maltbie,  however,  submitted  a  dissenting  opinion  in  which  he  con- 
tended that  upon  the  basis  of  such  a  partial  examination  it  was  impossible  for  the 
Commission  to  certify  that  all  the  expenditure  had  been  necessary  and  reasonable,  as 
was  required  by  the  statute.  He  contended  that  such  partial  audits  did  not  satisfy 
the  requirements  of  the  Law.  The  majority  opinion  insisted  that  it  would  be  foolish 
for  the  Commission  to  commit  itself  to  the  practice  of  examining  every  item  in  such 
a  case  as  it  would,  in  many  instances,  cause  intolerable  delay  in  taking  action  upon 
the  issue  of  securities  asked  for,  and  would  be  an  unreasonable  burden  upon  the  cor- 


(JAl'  TAL  CONTROL  IN  NEW  YORK  149 

Are  Railroad  Securities  ''Property^'? 

In  this  case  also,  that  of  the  Delaware  and  Hudson  Company,"  the 
question  came  up  as  to  whether  railroad  securities  were  "property"  in 
the  meaning  of  the  PubUc  Service  Commissions  Law,  that  is,  as  one  of 
the  objects  for  which  securities  could  be  issued. 

The  Delaware  and  Hudson  Company  in  order  to  finance  certain 
Canadian  railroad  projects  (The  Quebec,  Montreal  and  Southern,  and  the 
Napierville  Junction,  Railway  companies)  had  issued  notes,  with  the 
proceeds  of  which  it  had  made  advances  to  these  companies  and  had 
received  certificates  of  indebtedness  which  would  later  be  exchanged  for 
the  bonds  of  the  companies.  The  Second  District  Commission  held  in 
this  case  that  "railway  stocks,  railway  bonds  and  railway  certificates  of 
indebtedness  are  property,"  and  that  the  proceeds  of  the  notes  sought 
to  be  refunded  had  been  expended  for  the  "acquisition  of  property"  as 
authorized  in  the  statute. 

When  is  the  Purchase  of  Securities  of  One  Railroad  by 

Another  "Reasonably  Necessary^'? 

On  the  other  hand,  if  this  were  a  mere  investment,  while  it  might 

constitute  "property"  within  the  meaning  of  the  statute,  it  would  not 

be  "reasonably  necessary,"  which  is  also  a  requirement  of  the  statute, 

and  should  be  made,  if  at  all,  from  surplus. 

It  was  shown  in  this  case,  however,  that  these  roads  had  been  built 
under  the  full  control  of  the  apphcant,  and  were  intended  to  be  feeders 

porations  which  had  to  call  their  employees  from  their  regular  duties  to  assist  the 
representatives  of  the  Commission. 

The  reasoning  of  the  majority  seems  lacking  in  weight.  The  "sampling"  process 
is  undoubtedly  a  loose  way  of  checking  up  specific  items  and  if  adopted  in  such  cases 
might  become  subject  to  imforeseen  abuse.  The  position  of  the  dissenting  commis- 
sioner seemed  to  be  much  more  in  keeping  with  the  spirit  of  the  PubUc  Service  Com- 
missions law. 

The  1910  amendment  to  the  Public  Service  Commissions  Law,  which  we  have 
discussed  above,  laid  particular  emphasis  upon  the  necessity  of  clearness  in  the  records 
of  expenditures  inciured  in  this  way.  It  provided  that  reimbursement  of  a  company's 
treasury  could  be  accomplished  by  the  issue  of  securities  only  "in  cases  where  the 
applicant  shall  have  kept  its  accounts  and  vouchers  of  such  expenditure  in  such  man- 
ner as  to  enable  the  Conmiission  to  ascertain  the  amount  of  moneys  so  exp)ended  and 
the  purpx)se  for  which  such  expenditure  was  made.  .  . "  See  also  Matter  of  AppUcation 
of  The  Long  Island  Raiboad  Company,  2  P.S.C.R.,  2nd  Dist.,  N.  Y.,  275.  Decided 
November  18,   1909. 

^'  Matter  of  Application  of  The  Delaware  and  Hudson  Company,  1  P.S.C.R., 
2nd  Dist.,  N.  Y.  242.    Decided  July  7,  1908. 


150  CAPITAL  CONTROL  IN  NEW  YORK 

to  its  main  system.  Being  in  foreign  territory,  ownership  by  a  separate 
corporation  was  necessary.  These  roads,  the  Commission  held,  would 
form  an  important  addition  to  the  applicant's  system.  Therefore,  it 
was  held,  the  investment  in  the  certificates  had  been  "reasonably  neces- 
sary. " 

General  Tests  for  the  Refunding  of  Note  Issues 
The  question  of  the  refunding  of  note  issues  was  an  important  phase 
of  the  Delaware  and  Hudson  case,  just  discussed,  and  the  Commission 
took  the  opportunity  to  state  its  general  conclusions  upon  this  subject 
in  the  following  language: 

We  must  apply  the  same  test  to  cases  where  it  is  sought  to  issue  bonds  to  refund 
or  discharge  notes  that  we  employ  upon  applications  to  issue  bonds  to  acquire  property, 
construct  additional  line  or  make  improvements  generally.  That  test  is  whether  the 
particular  matter  is  the  proper  subject  of  capitalization.  Where  property  is  sought 
to  be  acquired  by  means  of  a  bond  issue,  or  notes  covering  the  acquisition  of  property 
are  sought  to  be  refunded  by  a  bond  issue,  determination  of  the  question  whether  the 
capital  to  be  secured  by  such  an  issue  is  reasonably  required  involves  inquiry  as  to  the 
character  and  use  of  the  property  with  reference  to  the  general  business  and  public 
duties  of  the  applying  corporation,  and  in  all  such  cases  the  Commission  must  distin- 
guish between  what  are  merely  investments  in  disconnected  properties  and  what  are 
acquisitions  of  property  having  some  definite  useful  relation  to  the  public  service 
operations  of  the  corporation.^" 

The  refunding  of  certain  other  items  in  the  application  was  held  to  be 
unwarranted,  upon  the  evidence  produced,  and  no  action  was  taken 
upon  them.  A  continuance  of  the  application  was  granted  in  this 
respect  for  the  submission  of  further  evidence,  if  the  applicant  so  desired. 

A  few  months  later  these  items  were  again  brought  before  the  Com- 
mission. 

Issue  of  Bonds  for  Purchase  of  a  Disconnected  Property 
Held  to  be  "Not  Reasonably  Necessary^ 
In  one  of  these  items  the  Delaware  and  Hudson  Company  had 
charged  $4,665,295  against  the  purchase  of  75,000  shares  of  stock  of 
the  United  Traction  Company.  Meantime,  the  Northern  New  York 
Development  Company,  a  dummy  corporation  which  the  Delaware  and 
Hudson  used  as  its  agent  in  acquiring  properties,  had,  by  order  of  the 
Delaware  and  Hudson,  purchased  virtually  the  entire  stock  and  bonds 
of  the  Hudson  Valley  Railway  Company,  the  Delaware  and  Hudson 
advancing  the  amount  mentioned  above.    Before  the  completion  of  this 

»  See  1  P.S.C.R.,  2nd  Dist.,  N.  Y.     Bottom  of  page  275. 


CAPITAL  CONTROL  IN  NEW  YORK  151 

purchase  the  Delaware  and  Hudson  itself  had  purchased  the  entire  capital 
stock  (50,000)  shares  of  the  United  Traction  Company,  for  which  it  had 
paid  $150  a  share,  or  a  premium  of  $2,500,000  on  stock  of  the  par  value  of 
$5,000,000.  The  Delaware  and  Hudson  then  determined  to  have  this 
$2,500,000  premium  repaid  to  itself  in  new  stock  of  the  United  Traction 
Company,  and  also  to  have  the  latter  issue  other  $5,000,000  of  stock  for 
the  purpose  of  assuming  the  Hudson  Valley  purchase  from  the  Northern 
New  York  Development  Company.  This  increase  of  75,000  shares  was 
permitted  by  the  existing  Board  of  Raihoad  Commissioners  and  the 
Delaware  and  Hudson  in  eflfect  thereby  caused  an  issue  of  $2,500,000 
new  stock  of  the  United  Traction  Company  to  itself,  for  which  it  paid 
nothing,  and  which  it  had  been  able  to  do  through  its  ownership  of  all 
the  stock  of  the  Northern  New  York  Development  Company  and  the 
United  Traction  Company. 

Upon  the  original  application  the  Delaware  and  Hudson  had  asked 
leave  to  issue  bonds  upon  its  steam  raihoad  properties  with  which  to 
refund  the  items  here  involved,  on  the  basis  of  the  expenditure  of  the  pro- 
ceeds for  the  purchase  of  75,000  shares  of  United  Traction  stock.  In  the 
present  case  it  based  the  proposed  new  issue  upon  the  purchase  of  the 
Hudson  Valley  securities  above  described. 

The  Delaware  and  Hudson  did  not,  at  this  time,  own  a  single  security 
of  any  kind  of  the  Hudson  Valley  Railway  Company.  It  had  had  control 
at  one  time,  through  its  purchasing  company,  but,  instead  of  transferring 
these  securities  to  its  own  najne,  it  caused  the  Development  Company  to 
transfer  them  to  the  United  Traction  Company,  and  took  an  assignment 
of  the  Traction  Company's  certificate  of  indebtedness  issued  to  the  Devel- 
opemnt  Company  in  payment  for  the  sale  of  these  Hudson  Valley  securi- 
ties. It  had  advanced  money  to  the  Development  Company  to  purchase 
the  Hudson  Valley  securities,  and  if  those  secm-ities  had  then  been  taken 
over  by  the  Delaware  &  Hudson  its  ownership  would  have  been  direct 
and  the  transaction  complete.  But  it  then  caused  the  sale  to  the  United 
Traction  Company  and  accepted  therefor  the  latter's  certificate  of  in- 
debtedness for  $7,500,000  in  return  for  an  expenditure  of  approximately 
$5,000,000.  This  was  followed  by  an  exchange  of  the  certificate  for 
$7,500,000  of  new  United  Traction  stock.  It  would  have  seemed  logical, 
therefore,  that  as  a  result  of  these  transactions,  these  notes  of  the  Dela- 
ware and  Hudson,  which  it  now  sought  to  refund,  actually  represented 
the  purchase  of  75,000  shares  of  United  Traction  Company  stock,  and 
nothing  else. 


152  CAPITAL  CONTROL  IN  NEW  YORK 

If  it  were  assumed  that  the  note  obUgations  in  question  represented 
money  paid  for  the  Hudson  Valley  securities,  then  it  would  have  seemed 
that  the  Delaware  and  Hudson  had  received  the  securities  of  the  Hudson 
Valley,  which  it  claimed  were  worth  the  amount  of  the  notes  (approxi- 
mately $5,000,000)  and  in  addition  $2,500,000  of  stock  of  the  United 
Traction  Company  which  could  be  legally  issued  only  for  full  value.  This 
left  $2,500,000  as  representing  Hudson  Valley  securities.  The  Com- 
mission held,  that  for  the  purposes  of  this  application,  it  would  regard 
the  whole  series  of  transactions  as  representing  solely  a  final  investment 
in  stock  of  the  United  Traction  Company.  The  whole  proposition  nar- 
rowed down,  in  the  Commission's  view,  to  the  question  whether  under  a 
new  mortgage  vesting  solely  upon  the  applicant's  steam  railroad  proper- 
ties there  should  be  allowed  a  bond  issue  for  the  refunding  of  notes  the 
proceeds  of  which  had  been  finally  devoted  to  the  purchase  of  United 
Traction  Company  stock.  For  the  purchase,  the  Commission  held,  was 
merely  an  investment  in  stock  of  a  company  operating  a  disconnected 
property  which  had  no  necessary  or  useful  relation  to  the  railroad  com- 
pany's general  operations.  Such  an  investment,  the  Commission  held, 
if  made  at  all,  should  be  drawn  from  surplus  funds.  "  We  cannot  say, " 
the  Commission  said,  "that  such  capital  to  be  so  secured  is  reasonably  re- 
quired by  this  common  carrier  corporation  for  purposes  defined  in  the 
statute. " 

The  appHcant  corporation  had  contended  that  in  cases  where  the 
proceeds  of  note  issues  had  been  used  for  the  acquisition  of  a  disconnected 
property  of  any  kind,  the  value  of  which  was  less  than  the  sum  so  ex- 
pended, the  action  of  the  corporation's  board  of  directors  should  be 
accepted  without  inquiry. 

Attitude  of  Commission  Toward  ObUgations 
Issued  Prior  to  July  1,  1907 
The  applicant  corporation.  The  Delaware  and  Hudson  Company, 
further  contended  that  bonds  should  be  authorized  as  a  matter  of  course 
when  the  note  obligations  upon  which  they  were  to  be  based  had  been 
incurred  prior  to  the  going  into  effect  of  the  Public  Service  Commissions 
Law.  The  Commission  held,  in  this  case,  that  such  a  position  was 
untenable,  and  stated  "that  the  Law  took  effect  on  July  1,  1907,  and 
thereafter  all  new  stock,  bonds,  notes  for  more  than  one  year,  and  other 
evidences  of  indebtedness  could  only  issue  in  accordance  with  its  pro- 
visions. "^^ 

^  See  1  P.S.C.R.,  2nd  Dist.,  N.  Y.,  top  of  page  407. 


CAPITAL  CONTROL  IN  NEW  YORK  153 

Obligations  entered  into  prior  to  that  date  and  for  which  new  bonds 
or  long  time  notes  were  later  sought  to  be  issued,  the  Commission  held, 
must  be  thoroughly  inquired  into,  to  the  end  that  the  Commission  should 
satisfy  itself  that  the  capital  proposed  to  be  raised  was  or  was  not  rea- 
sonably required.  This  was  not  meant  in  the  present  case,  the  Commis- 
sion pointed  out,  to  be  a  review  of  the  action  of  the  Board  of  Directors  in 
issuing  notes  and  purchasing  property  before  the  law  came  into  force, 
nor  a  discussion  of  the  right  of  the  company  under  prior  existing  law  to 
purchase  at  will  the  securities  of  traction  or  other  companies,  nor  a 
review  of  the  action  of  the  Board  of  Railroad  Commissioners  in  authoriz- 
ing the  increase  of  the  traction  company  stock.  It  was  simply,  as  the 
Conmiission  expressed  it,  to  the  effect  that  "whatever  was  done  right- 
fully or  wrongfully  before,  now  under  this  law  the  necessary  showing 
must  be  made  to  warrant  issuance  of  new  bond  capital.  ..." 

The  practical  situation  facing  the  Commission  was  commented  upon 
in  part  by  Commissioner  Decker,  as  follows: 

The  note  obligations  involved  are  lawful  obligations  resting  upon  the  corporation, 
and  no  matter  how  the  proceeds  were  expended,  the  debt  must  be  paid.  .  .  .  These 
notes  are  being  carried  now  necessarily  on  short  terms,  one  year  or  less,  and  the  interest 
charges  are  comparatively  high.  It  is  important  that  they  shovdd  be  discharged  by 
actual  payment  or  evidences  of  debt  running  for  a  period  of  more  than  one  year.  The 
obligations  were  contracted  in  the  exercise  of  a  legal  right  by  the  corporation,  and  the 
proceeds  were  devoted  to  the  purchase  of  securities  at  a  time  when  the  corporation  was 
entitled  to  acquire  the  stock  of  other  railroad  corporations  and  street  railroad  corpora- 
tions without  asking  permission  to  do  so  from  any  board  or  tribimal.  This  Commis- 
sion is  without  power  to  require  the  corporation  to  divest  itself  of  title  to  these  or  any 
secxirities  or  property,  and  the  law  now  in  force  specifically  declares  that  its  provisions 
shall  not  'be  construed  to  prevent  the  holding  of  stock  heretofore  lawfully  acquired.'** 

The  Commission  held  therefore,  that  the  acquirement  of  the  traction 
securities  must  be  treated  as  an  accomplished  fact,  and,  for  the  purposes 
of  this  case,  as  a  lawful  act,  and  that  in  this  respect  only  did  note  obliga- 
tions created  prior  to  the  passage  of  the  Pubhc  Service  Commissions  Law 
to  raise  funds  with  which  to  acquire  property,  including  raihoad  securi- 
ties, differ  in  character  and  treatment  from  such  obligations  issued  after 
that  law  went  into  effect.  Since  then  the  consent  of  the  Commission 
has  been,  of  course,  a  prerequisite  to  any  such  purchase  or  taking  over 
of  the  stock  of  one  corporation  by  another. 

In  short,  the  Commission,  while  granting  the  legahty  of  the  purchase 
of  these  securities,  and  the  necessity  for  the  discharge  of  the  notes  under- 
lying them,  would  not  endorse  their  funding  by  means  of  the  long  term 

"  See  1  P.S.C.R.,  2nd  Dist.,  N.  Y.,  top  of  page  408. 


154  CAPITAL  CONTROL  IN  NEW  YORK 

bonds  applied  for,  and  suggested  the  possibility  of  a  mortgage  covering  all 
of  the  applicant's  property,  or  at  least  the  traction  property  in  question, 
instead  of  a  mortgage  covering  only  the  apphcant's  railroad  property. 
It  was  further  suggested  by  the  Commission  that  upon  such  mortgage 
five  year  notes  could  be  issued  for  which  these  or  other  securities  owned 
by  the  company  could  be  put  up  as  collateral  security,  or,  further,  the 
issue  of  short  time  general  income  or  debenture  bonds  with  provision 
for  actual  payment  at  maturity. 

The  appUcant  corporation's  plan  would  have  charged  the  railroad 
alone  for  a  period  of  thirty-five  years  with  a  debt  which  had  no  relation 
to  the  raihoad  or  its  operation,  and,  for  the  reasons  stated,  this  part  of 
the  application  was  denied. 

Purchase  of  Coal  Lands  by  a  Railroad  Corporation 

The  third  disputed  item  in  this  somewhat  involved  case  was  the  pro- 
posed refunding  of  note  obhgations  to  the  amount  of  $2,500,000  for 
advances  made  to  a  subsidiary  (The  Hudson  Coal  Company)  for  the 
purchase  of  certain  coal  lands  in  Pennsylvania.  These  coal  lands  were  not 
covered  by  the  mortgage,  which,  as  stated  before,  was  based  upon  the 
apphcant's  railroad  property  exclusively. 

The  Delaware  &  Hudson's  charter  gave  it  power  to  carry  on  business 
both  as  a  common  carrier  and  as  a  coal  producer,  but  as  a  common  carrier 
it  was  subject  to  the  provisions  of  the  Public  Service  Commission's  law, 
and  as  such  it  was  applying  for  bonds. 

The  evidence  showed  that  the  coal  lands  were  worth  eight  times  as 
much  as  the  amount  of  the  indebtedness  ($2,500,000),  and  that  while 
the  Delaware  and  Hudson  had  not  taken  title  to  them,  it  had  entire 
control  of  them  through  stock  ownership  of  subsidiaries,  and  could  at 
any  time  cause  mortgages  to  be  issued  upon  them  for  the  refunding  of  the 
advances  which  it  now  sought  to  refund  by  bond  capital  upon  its  rail- 
roads. And,  of  course,  if  the  Commission  should  grant  the  latter  apphca- 
tion,  it  could  still  go  ahead  and  mortgage  said  coal  lands  without  any 
permission  from  the  Commission,  in  spite  of  the  fact  that  the  railroad 
property  would  be  burdened  with  bonds  whose  proceeds  were  invested 
entirely  in  the  purchase  of  the  lands. 

In  the  first  place,  the  applicant  claimed  that  a  far  larger  amount  had 
been  spent  upon  improvements  to  the  railroad  property  than  upon  the 
development  of  the  coal-mining  company,  whereas  the  coal  lands  paid  a 
much  larger  proportionate  return.  The  Commission  held  that,  assimiing 
that  such  a  large  amount  of  money  as  stated  had  been  expended  upon  the 


CAPITAL  CONTROL  IN  NEW  YORK  155 

railroad  property  for  improvements,  and  that  the  same  had  not  aheady 
been  made  the  subject  of  capitaUzation,  this  fact  in  itself  would  con- 
stitute no  justification  for  "an  otherwise  improper  addition  to  the  debt 
burden  borne  solely  by  the  raihoad. " 

Secondly,  it  was  urged  by  the  apphcant  that  the  value  of  the  railroad 
property  depended  largely  upon  its  use  in  the  shipment  of  coal  derived 
from  such  properties,  and  that  the  large  revenues  received  from  this 
source  went  a  long  way  toward  meeting  operating  expenses  and  fixed 
charges,  with  the  result  that  the  cost  to  the  pubhc  of  using  the  raihoad 
was  much  less  than  it  would  have  been  without  this  large  source  of  traffic. 
The  claim  was,  in  brief,  that  the  appHcant's  large  private  business  as  a 
coal-carrying  corporation  was  necessary  to  its  success  as  a  common 
carrier  corporation;  that  this  business  •^-as  of  such  advantage  in  enhancing 
the  value  of  the  raihoad  property  and  in  making  possible  lower  rates  to 
the  pubhc,  that  the  cost  of  additional  coal  lands  deemed  necessary  for 
the  permanence  of  this  traffic  could  justifiably  be  added  to  a  fimded 
debt  resting  only  upon  the  apphcant's  raihoad  property. 

The  evidence  showed  that  the  coal  properties  were  amply  able  to 
carry  their  own  fixed  charges,  and  that  the  acquisition  of  the  coal  lands 
was  to  the  Delaware  and  Hudson  as  a  raihoad  corporation  an  advantage 
too  remote  to  make  the  purchase  price  or  a  part  of  it  a  proper  charge 
upon  its  raihoad  property.  The  Commission  held  that  "the  proposed 
bond  issue  upon  the  raihoad  property  alone  to  refund  or  discharge  obhga- 
tions  incurred  to  pay  for  coal  lands,  a  totally  disconnected  property, 
which  it  holds  and  will  use  in  its  capacity  as  a  producer  and  shipper  of 
coal,  relates  to  a  kind  of  capital  not  shown  to  be  reasonably  required 
in  this  case."^ 

The  apphcant  appealed  to  the  courts,  and  the  Appellate  Division 
of  the  Supreme  Coiirt  reversed  the  order  of  the  Commission.  The  Com- 
mission then  carried  the  case  to  the  New  York  Court  of  Appeals  with  the 
result  that  the  order  of  the  Lower  Court  was  upheld  in  a  decision  ren- 
dered December  7,  1909.2^ 

«  See  1  P.S.C.R.,  2nd  Dist.,  N.  Y.,  page  422. 

"  People  ex  rel  The  Delaware  &*  Hudson  Co.  v.  Stevens,  197  N.  Y.  1 
The  Delaware  &  Hudson  decision  has  been  so  widely  heralded  as  a  check  upon 
the  p)owers  of  the  Public  Service  Commissions  that  we  have  taken  the  liberty  of 
quoting  at  length  from  it  regarding  the  main  issues  involved.  "We  do  not  think," 
said  the  Court  "the  legislation  alluded  to  (the  Public  Service  Commissions  Law)  was 
designed  to  make  the  commissioners  the  financial  managers  of  the  corporation,  or 
that  it  empowered  them  to  substitute  their  judgment  for  that  of  the  Board  of  Direc- 


156  CAPITAL  CONTROL  IN  NEW  YORK 

In  connection  with  the  notes  issued  by  the  appUcant  for  the  purchase 
of  coal  lands,  the  court  pointed  out  that  these  notes  were  conceded  by 
the  Commission  to  be  valid  obligations  of  the  company;  that  they  had 
been  given  for  the  acquisition  of  the  property;  that  the  lands  so  acquired 

tors  or  stockholders  of  the  corporation  as  to  the  wisdom  of  a  transaction,  but  that  it 
was  designed  to  make  the  commissioners  the  guardians  of  the  public  by  enabling  them 
to  prevent  the  issue  of  stock  and  bonds  for  other  than  the  statutory  purposes.  ..." 

The  Court  denied  the  power  of  the  Commission  in  refusing  permission  to  the 
Delaware  and  Hudson  Company  to  refund  the  Hudson  Valley  notes  in  the  following 
language.  "In  regard  to  the  notes  issued  for  the  purpose  of  acquiring  the  stock  and 
secvirities  of  the  Hudson  Valley  Railway  Company,  there  is  no  question  made  with 
reference  to  the  amoimt  or  their  validity.  .  .  .  The  learned  commissioner,  (Commr. 
Decker  had  written  the  opinion  of  the  Commission)  however,  reaches  the  conclusion 
that,  notwithstanding  the  fact  that  the  transaction  was  lawful,  and  that  the  notes 
were  the  valid  obligations  of  the  corporation,  the  purchase  of  the  Hudson  Valley 
securities  was  an  unfortunate  one  for  the  company.  .  .  .  This,  we  think,  would  be 
substituting  the  judgment  and  discretion  of  the  commissioners  for  that  of  the  directors  and 
stockholders  of  the  corporation.  If  such  was  the  purpose  and  intent  of  the  statute,  a 
doubt  might  arise  with  reference  to  its  constitutionality.  For,  ordinarily,  the  owner- 
ship of  property  carries  with  it  the  right  of  occupancy  and  management,  and  should 
a  statute  deprive  the  owner  of  the  right  to  manage,  it  would,  under  ordinary  circum- 
stances, imdermine  his  right  to  protect  and  make  his  property  remunerative.  .  .  . 
Assuming  that  the  purchase  was  unfortunate  and  that  the  company  has  lost  heavily 
thereby,  still  the  commissioners  conceded  that  it  was  made  at  a  time  when  no  consent 
of  the  railroad  commissioners  or  of  the  PubUc  Service  Commission  was  required,  and 
that,  therefore,  the  purchase  was  legal,  and  one  which  the  company  had  the  right  to 
make.  .  .  .  They,  the  notes,  were  given  for  the  acquisition  of  property,  which  is 
one  of  the  foiu*  purposes  designated  by  the  statute  for  which  bonds  may  be  authorized 
to  issue.  Having  been  given  for  the  acquiring  of  the  property  of  another  railroad, 
they  are  properly  classified  as  capital  and  are,  therefore,  brought  within  the  express 
provisions  of  the  statute  imder  which  the  appUcation  was  made.  While,  as  we  have 
stated,  the  ownership  of  property  ordinarily  carries  with  it  the  right  of  management 
the  duty  devolves  upon  the  owner  to  so  manage  as  not  to  have  it  become  a  nuisance 
or  unnecessarily  infringe  upon  the  rights  of  others.  It  was,  therefore,  evidently  the 
legislative  intent  in  the  enactment  of  this  provision  that  the  commissioners  should  have 
supervision  over  the  issuing  of  long  time  bonds  to  the  extent  of  determining  whether  they 
were  issued  under  and  in  conformity  with  the  provisions  of  the  statute  for  the  purposes 
mentioned  therein,  or  whether  they  were  issued  for  the  discharge  of  the  actual  and  not  the 
fictitious  debts  of  the  company,  or  whether  they  were  issued  for  the  refunding  of  its  actual 
obligations,  and  not  for  the  inflation  of  its  stocks  or  bonds.  Beyond  this,  it  appears  to  us 
that  the  powers  of  the  Commissioners  does  not  extend,  unless  it  may  pertain  to  the 
power  to  determine  whether  an  obligation  should  be  classified  as  operating  expenses 
and  as  to  whether  such  expenses  should  be  paid  by  obligations  running  beyond  a 
year.  We,  therefore,  conclude  that,  as  to  the  Hudson  Valley  securities,  so-called,  the 
application  of  the  relator  company  should  have  been  granted." 

(Note — Italics  not  in  original.) 


CAPITAL  CONTROL  IN  NEW  YORK  157 

or  the  amount  so  paid  had  become  capital  of  the  company;  that  they  pre- 
sented the  same  question  as  that  involved  in  the  Hudson  Valley  securi- 
ties, and  should  have  been  granted. 

The  Delaware  and  Hudson  decision  is  referred  to  again  and  again, 
and  yet  one  is  puzzled  as  to  what  it  actually  decided.  One  point  em- 
phasized by  the  Court  was  the  fact  that  the  purchases  in  question  were 
made  prior  to  the  enactment  of  the  Public  Service  Commissions  Law, 
and  that,  therefore,  they  were  legal.  Its  lack  of  specific  apphcation  to 
other  cases  seems  to  be  evidenced  in  part  by  the  wide  use  made  of  it  by 
counsel  of  public  utility  companies  who  had  nothing  else  to  use  and  who 
desired  to  interpret  the  Law  so  as  to  modify  the  powers  of  the  Commis- 
sions to  suit  their  own  needs.  The  decision,  hke  that  of  the  United 
States  Supreme  Court  in  the  Consolidated  Gas  case,  seems  to  have  been 
more  or  less  peculiar  to  the  case  involved,  rather  than  of  general  apphca- 
tion, and  to  indicate  more  than  anything  else,  a  trend  upon  the  part  of 
the  courts  to  keep  the  Commission  closely  confined  to  the  powers  granted 
them  under  the  Pubhc  Service  Commissions  Law.^ 

Approval  of  Issue  of  Securities  for  Purchase  of  Property 
Not  Directly  Used  in  the  Public  Service 
The  Watertown  Light  &  Power  Company  had,  with  the  consent  of 
the  former  commission  of  Gas  &  Electricity,  and  by  means  of  securities 
authorized  by  that  body,  purchased  the  property  and  water  power  of 
H,  Remington  &  Sons  Pulp  and  Paper  Company.  The  possibihties  of 
hydraulic  power  development  in  this  property  were  regarded  as  very 
valuable,  but  the  whole  property  had  to  be  purchased  in  order  to  acquire 
them. 

**  In  the  Binghamton  case  (Matter  of  Application  of  Binghamton  Light,  Heat  and 
Power  Company,  2  P.S.C.R.,  2nd  Dist.,  N.  Y.,  171.  Decided  August  4,  1909),  the 
applicant  corporation  cited  the  decision  to  support  its  contention  that  the  Commission 
had  no  right  to  refuse  approval  of  the  securities  because  they  represented  replacement 
expenditures.  The  New  York  Court  of  Appeals  finally  passed  upon  the  case  and  in  its 
decision  discussed  the  Delaware  and  Hudson  decision  to  the  following  effect.  (People 
ex  rel.  Binghamton  Light,  Heat  and  Power  Company  vs.  Stevens,  203  N.  Y.,  7. 
Decided  Oct.  3,  1911): 

"The  court  in  that  case  (Del.  and  Hud.)  in  referring  to  the  intent  of  the  legislature, 
said  that  by  its  enactment  (Public  Service  Commissions  Law)  the  commissioners  should 
have  supervision  over  the  issuing  of  long  time  bonds  to  the  extent  of  determining 
whether  they  were  issued  under  and  in  conformity  with  the  provisions  of  the  statute 
for  the  purposes  mentioned  thereon,  or  whether  they  were  issued  for  the  discharge  of  the 
actual  and  not  the  fictitious  debts  of  the  company,  or  whether  they  were  issued  for  the 
refunding  of  its  actual  obligations  and  not  for  the  inflation  of  its  stock  or  bonds;  and 


158  CAPITAL  CONTROL  IN  NEW  YORK 

The  property  was  devoted  chiefly  to  pulp  mill  operations  and  con- 
sisted of  about  thirty-five  acres  of  land  through  which  flowed  a  river. 
The  water-power  possibilities  were  only  partially  developed.  Upon  this 
property  the  Watertown  Company  had  expended  some  $114,000,  which 
it  wished  to  refund  by  the  issue  of  securities.'^^  Also,  in  the  list  of  expen- 
ditures of  the  Watertown  Company  upon  its  own  plant  there  occurred 
an  item  "  Improvements  to  flats  .  .  .  $748.00, "  and  from  this  it  appeared 
that  upon  a  piece  of  real  estate  which  the  company  owned  in  connection 
with  its  electric  business,  it  had  erected  a  large  building  which  it  let  out 
as  stores  and  flats,  but  that  none  of  the  building  was  being  used  in  the 
business  of  furnishing  light  and  power. 

These  two  matters  brought  up  the  question  of  the  authority  of  the 
Commission  to  allow  capitalization  for  improvements  other  than  directly 
for  public  service. 

Here  was  a  case  of  a  light  and  power  company  owning  a  pulp  mill  and 
making  large  investments  in  developing  water  power,  which,  whether  or 
not  it  might  ultimately  be  required  for  public  service,  was  for  the  present, 
and  for  a  long  time  to  come,  to  be  used  in  the  manufacture  of  pulp.  A 
building  had  been  erected  by  the  same  company  upon  real  estate  which 
it  owned,  but  which  it  rented  out  and  did  not  use  for  the  public  service. 
No  doubt  such  investments  made  from  earnings  would  not  be  open  to 
criticism,  but  were  such  investments  the  proper  subject  for  the  issue  of 
securities? 

It  was  true  that  the  mill  property  had  nothing  to  do  with  the  pubUc 
service  other  than  that  the  water-power  developed  upon  it  might  be 
needed  at  some  future  time.  Still,  the  Commission  reasoned,  it  would 
certainly  not  be  public  pohcy  to  allow  the  property  to  deteriorate  or  re- 
main undeveloped;  but,  on  the  other  hand,  as  a  public  utility  the  com- 
pany could  not  borrow  money  without  the  consent  of  the  Commission. 

As  to  the  real  estate,  the  officers  of  the  company  stated  that  they 
expected  at  some  future  time  to  make  use  of  the  building  in  the  public 

continuing,  the  court  further  says:  'Beyond  this  it  appears  to  us  that  the  power  of  the 
commissioners  does  not  extend,  unless  it  may  pertain  to  the  power  to  determine  whether 
an  obligation  should  be  classified  as  operating  expenses  and  as  to  whether  such  expenses 
should  be  paid  by  obligations  running  beyond  ayear.  (Pg.  13).  The  question  as  to 
whether  the  commission  has  authority  to  classify  the  expenditures  of  a  corporation  and 
ascertain  what  part  thereof  should  be  charged  to  capital  account  and  what  part  to 
operating  expenses  was  thus  expressly  reserved  for  further  consideration." 

^  Matter  of  Application  of  the  Watertown  Light  and  Power  Company,  1  P.S.C.R., 
2nd  Dist.,  N.  Y.,  496.    Decided  March  9,  1909. 


CAPITAL  CONTROL  IN  NEW  YORK  159 

service,  although  it  was  not  necessary  to  their  business  at  present. 
Should  this  real  estate  be  allowed  to  He  idle  because  it  was  not  at  present 
directly  related  to  the  public  service?  Must  the  company  dispose  of  this 
property,  which  might  in  the  future  become  necessary  to  its  business 
because  it  could  not  at  present  make  such  use  of  it? 

Section  69  of  the  Public  Service  Commissions  Law  stated  that  "electrical  corpor- 
ations organized  or  existing  .  .  .  under  or  by  virtue  of  the  laws  of  the  State  of  New 
York,  may  issue  stocks,  bonds,  notes,  or  other  evidences  of  indebtedness  .  .  .  when 
necessary  for  the  acquisition  of  property,  the  construction,  completion,  extension  and 
improvement  of  its  plant  ...  or  for  the  improvement  or  maintenance  of  its  service," 
upon  the  proper  order  of  the  Commission. 

If  an  electrical  corporation,  the  Commission  reasoned,  owned  a  plant 
for  the  manufacture  of  electricity,  and  needed  to  extend  its  service  to  give 
immediate  adequate  service,  such  action  would  not  be  a  matter  of  dispute. 
If,  in  order  to  give  such  service  it  had  to  purchase  adjoining  property, 
such  action  would  be  approved.  If  its  business  were  growing  rapidly, 
and  it  needed  the  extension  for  future  development,  but  had  the  chance 
to  purchase  now,  certainly  such  action  should  be  approved. 

If,  upon  the  property  purchased,  there  were  a  building,  which,  in 
due  course,  would  be  demolished  to  make  way  for  extensions  of  plant, 
should  not  such  building  in  the  meantime  be  given  necessary  repairs, 
and  made  remunerative,  rather  than  left  idle? 

As  to  the  time  when  such  properties  would  be  actually  needed  in  the 
public  service,  the  Commission  held  that  it  was  futile  to  lay  down  any 
rule;  the  proper  solution  seemed  to  be  to  construe  the  statute  in  the 
light  of  intelligent  business  judgment  and  upon  the  merits  of  individual 
cases.  "A  public  service  corporation "  said  the  Commission,  " should  not 
engage  permanently  in  any  other  business  than  that  for  which  it  is 
incorporated,  but  where  it  is  desired  to  equip  temporarily  property  which 
is  held  for  future  public  service,  and  such  property  can  be  shown  to  be 
ultimately  desirable  and  temporarily  not  a  burden  upon  such  public 
service,  this  Commission  should  not  withhold  its  approval. " 
1%'  It  was  held  that  the  purchases  of  the  pulp  mill  property,  with  its 
valuable  water  power,  was  a  proper  business  undertaking  for  the  light 
and  power  company,  as  it  was  based  upon  its  public  service  capacity 
toward  the  future  development  of  the  city,  and  that,  if,  in  the  meantime, 
it  were  allowed  to  lie  idle,  it  would  be  a  drain  upon  the  company,  and, 
indirectly,  upon  its  consumers. 


160  CAPITAL  CONTROL  IN  NEW  YORK 

PART  FOUR 

REFUNDING  AND  REORGANIZATION 

Refunding,  in  its  broadest  sense,  includes  reorganization,  which  is 
really  a  special  kind  of  refunding  consequent  upon  a  sale  at  foreclosure 
and  change  of  ownership.  Legally,  a  new  corporation  comes  into 
existence  with  reorganization,  while  with  the  ordinary  kind  of  refunding, 
the  corporation  continues  as  before. 


CHAPTER  XIII 
Refunding 

Under  the  heading  of  refunding  there  will  be  considered  only  obliga- 
tions running  for  more  than  twelve  months,  Obhgations  running  for 
twelve  months  or  less  do  not  come  within  the  jurisdiction  of  the  Com- 
missions,^ and  the  refunding  of  such  obligations  with  securities  running 
for  more  than  twelve  months  constitutes  an  issuance  of  new"  securities. 

One  of  the  purposes  for  which  the  Law  provides  that  a  corporation 
may,  with  the  approval  of  the  Commission,  issue  stocks,  bonds,  notes,  or 
other  evidences  of  indebtedness  (payable  at  periods  of  more  than  twelve 
months)  is  "for  the  discharge  or  lawful  refimding  of  its  obligations." 
In  considering  applications  for  permission  to  issue  securities  for  the  pur- 
pose of  refunding  bonds  or  other  obligations  issued  subsequently  to  the 
estabhshment  of  Commission-control,  the  procedure  is  largely  routine. 
For  the  original  issue  has  been  subjected  to  investigation  by  the  Commis- 
sion, and  any  questions  arising  have  to  do  chiefly  with  changes  in  the 
form  or  conditions  of  the  new  securities,  and  not  with  the  propriety  of  the 
issue  as  a  capital  charge.  Thus  it  may  be  necessary  to  refund  a  bond 
issue  paying  four  per  cent  with  a  new  issue  carrying  a  five  per  cent  return, 
due  to  changes  in  the  condition  of  the  money  market,  or  a  corporation 
may  propose  to  replace  a  maturing  bond  issue  with  preferred  stock. 

Commissions  Should  not  be  Compelled  to  Authorize  the  Refunding  of 
Obligations  Simply  Upon  Proof  that  they  are  Lawful 
In  the  matter  of  applications  for  permission  to  issue  securities  for  the 
purpose  of  refunding  bonds  or  other  obhgations  issued  prior  to  the 
estabhshment  of  commission-control,  all  pubHc  service  commissions  have 
a  large  amount  of  discretion,  and  the  question  has  arisen  whether  such 
outstanding  obhgations  should  be  permitted  to  be  refunded  simply 
upon  proof  that  they  are  lawful,  or  whether  there  should  be  investigation 
as  to  the  piuposes  for  which  the  outstanding  issue  was  originally  made, 

^The  Public  Service  Commissions  Law,  Sec.  55,  provides  as  follows:  "Such  com- 
mon carrier,  railroad  corporation  or  street  railroad  corporation  may  issue  notes  for 
proper  corporate  purposes  and  not  in  violation  of  any  provision  of  this  chapter  or  any 
other  act,  payable  at  periods  of  not  more  than  twelve  months  without  such  consent, 
but  no  such  notes  shall,  in  whole  or  in  part,  directly  or  indirectly  be  refunded,  by  any 
issue  of  stock  or  bonds  or  by  any  evidence  of  indebtedness  running  for  more  than 
twelve  months  without  the  consent  of  the  proper  commission."  See  also  Sees.  69, 
82,  and  101. 


162  CAPITAL  CONTROL  IN  NEW  YORK 

and  the  manner  in  which  the  proceeds  were  utiHzed.  The  New  York 
Commissions  have  taken  the  position  that  securities  for  the  refunding 
of  outstanding  lawful  obligations  should  be  authorized  only  after  inves- 
tigation of  the  original  expenditures.  The  First  District  Commission 
has  assumed  discretion  in  the  matter  of  sanctioning  securities  to  refund 
ouststanding  obligations,  and  in  such  cases  has  based  its  considerations 
upon  the  purposes  for  which  the  original  funds  were  expended,  the 
value  of  the  applicant's  property,  and  its  earnings. 

In  connection  with  the  application  of  the  Dry  Dock,  East  Broadway 
and  Battery  Railroad  Company  to  refund  certain  obligations,  the  cor- 
poration contended  that  it  was  entitled  to  the  approval  of  the  proposed 
new  securities  upon  proof  that  the  securities  to  be  refunded  were  lawful, 
regardless  of  the  value  of  the  property,  or  the  adequacy  of  earnings  to 
meet  interest  charges.^ 

This  petition  was  subsequently  denied  and  Commissioner  Maltbie,  in 
writing  the  majority  opinion,  pointed  out  that  if,  as  seemed  probable, 
the  certificates  which  the  company  sought  to  refund  with  fifty-year  bonds 
had  originally  represented  surplus  built  up  out  of  earnings,  that  surplus 
or  the  property  which  represented  it  might  have  disappeared,  and  yet 
the  company  claim  the  right  to  refund  indefinitely.  This  would  result 
in  permitting  a  company  to  do  indirectly,  and  with  the  approval  of  the 
Commission,  what  the  Public  Service  Commissions  Law  was  enacted  to 
prevent,  namely,  the  issue  of  securities  without  corresponding  value. 
This  opinion  held  as  follows: 

It  is  incumbent  upon  the  Commission,  before  it  allows  the  certificates  to  be  per- 
manently refunded  in  bonds,  to  find  what  has  become  of  the  property  they  originally 
represented,  if  they  represented  any.  If  it  does  not  exist  and  if  there  is  no  equivalent, 
the  Commission  has  no  power  to  permit  this  deficiency  to  be  capitalized  by  the  issue 
of  fifty-year  bonds.' 

As  regards  the  claim  of  the  company  that  consideration  by  the  Com- 
mission of  the  earnings  and  their  adequacy  to  pay  interest  charges  was 
irrelevant,  the  opinion  held  that 

the  Commission  would  become  ridiculous  if  it  did  not  consider  probable  earning  capac- 
ity and  would  authorize  bonds  to  be  issued  upon  which  interest  could  not  be  paid.  .  .  . 
No  issue  of  bonds  can  be  said  to  be  "necessary"  in  any  sense  of  the  word,  if  the  inevi- 
table or  probable  result  would  be  the  insolvency  of  the  corporation  issuing  the  securi- 
ties.  ■  ■  .•* 

^  Matter  of  Application  of  the  Dry  Dock,  East  Broadway  and  Battery  RaUroad 
Company  for  Permission  to  Issue  Bonds,  5  P.S.C.R.,  1st  Dist.,  N.  Y.,  141.  Opinions 
filed  March  3,  1914. 

« See  5  P.S.C.R.,  1st  Dist.,  N.  Y.    Bottom  page  166. 

*  See  5  P.S.C.R.,  1st  Dist.,  N.  Y.    Bottom  page  178. 


CAPITAL  CONTROL  TN  NEW  YORK  163 

It  was  further  pointed  out  that  what  records  were  available  showed 
that  parts  of  the  indebtedness  to  be  refunded  represented  a  scrip  dividend 
as  well  as  replacements  and  renewals.  Withdrawals  had  not  been 
credited  to  capital  account  and  dividends  had  been  paid  which  had  not 
been  earned.    In  conclusion,  the  opinion  held  that 

upon  the  facts  the  Commission  has  no  p>ower  imder  the  law  to  approve  the  pending 
application,  and  to  do  so  would  be  to  disregard  one  of  the  fundamental  purposes  for 
which  the  Public  Service  Commission  was  created.* 

In  a  Second  District  case,  the  application  of  the  Delaware  and  Hud- 
son Raihoad  to  issue  bonds,  a  portion  of  which  were  to  be  used  to  refund 
certain  obligations  incurred  prior  to  the  going  into  effect  of  the  PubUc 
Service  Commissions  Law,  the  company  claimed  that  bonds  to  refund 
such  obligations  should  be  authorized  as  a  matter  of  course.^  The  Com- 
mission held  this  position  to  be  untenable;  that  the  law  took  effect  July  1, 
1907,  and  that  thereafter  securities  could  be  issued  only  in  accordance 
with  its  provisions;  that  obhgations  entered  into  prior  to  that  date  for 
which  it  was  proposed  to  issue  new  securities  must  be  thoroughly  inquired 
into,  so  that  the  Commission  could  satisfy  itself  that  the  capital  to  be 
raised  was  "reasonably  required. " 

Permission  to  Execute  Refunding  Mortgage  Based  upon 
Thorough  Investigation  by  Commission 

The  Interborough  Rapid  Transit  Company  apphed  for  permission 
to  execute  a  mortgage  upon  its  property  to  secure  the  issue  of  bonds  to 
the  extent  of  $55,000,000.  A  large  part  of  this  was  to  be  used  to  re- 
fund existing  issues.  The  Commission,  after  making  a  thorough  inves- 
tigation of  the  petitioner's  existing  indebtedness,  available  assets, 
present  net  earning  capacity,  and  the  status  of  the  various  items 
pledged  under  the  mortgage,  decided  to  grant  the  p)etition. 

The  lease  of  the  Manhattan  Railway,  which  the  Interborough  had 
acquired,  had  not  been  included  as  an  asset  under  the  mortgage,  and 
this  was  added  by  the  Commission,  so  that  the  bondholders  might  have 
the  security  of  the  entire  earning  capacity  of  the  system. 

Another  modification  of  the  proposed  mortgage  was  the  inclusion 
within  its  terms  of,  not  merely  the  existing  interest  of  the  petitioner  as 
lessee  in  the  subway  raihoads,  but  also  aU  property,  real  and  personal, 
which  might  at  any  time  hereafter  be  acquired  as  a  part  of  the  equipment. 

»  See  5  P.S.C.R.,  1st  Dist.,  N.  Y.,  page  188. 

•  Matter  of  Application  of  the  Delaware  and  Hudson  Company  to  issue  bonds, 
1  P.S.C.R.,  2nd  Dist,  N.  Y.,  242.    Decided  July  7,  1908. 


164  CAPITAL  CONTROL  IN  NEW  YORK 

The  effect  of  the  "hereafter  acquired"  clause  would  be,  in  case  of  fore- 
closure, to  give  the  purchaser  the  right  immediately  to  step  into  the  shoes 
of  the  lessee  as  the  holder,  not  merely  of  the  terms  created  by  the'leases, 
but  of  all  property  constituting  at  that  time  the  equipment  of  the  rail- 
roads under  the  provisions  of  the  contracts.  The  purchaser  would  thus 
be  in  a  better  position  to  fulfill  the  terms  of  the  leases  and  operate  the 
property.  Without  this  change  legal  complications  might  tie  up  the 
use  of  equipment  which  had  been  "hereafter  acquired,"  and  which  was 
necessary  to  the  operation  of  the  road.  This  would  be  detrimental  both 
to  the  public  to  be  served  and  to  the  party  (receiver  or  purchaser)  seeking 
to  operate  the  property. 

The  inclusion  of  a  "hereafter  acquired"  clause  is,  of  course,  required 
very  generally  by  investment  banking  houses  in  such  cases.  Hence,  the 
action  of  the  Commission  in  including  it  in  this  case  merely  brought  the 
mortgage  up  to  the  generally  accepted  standard,  but  the  incident  goes 
to  show  what  could  happen  without  administrative  control. 

Payment  of  Premiums  and  Unamortized  Discounts  by 
Refunding  Issues  Disapproved 

An  application  of  the  New  York  Edison  Company  gives  us  a  good 
illustration  of  the  result  of  investigation  of  refunding  issues.'  The 
apphcant  desired  to  issue  stock  to  the  amount  of  $5,350,000,  with  which  to 
refund  certain  bond  issues.  Regarding  one  of  the  issues  to  be  refunded, 
it  was  ascertained  that  the  bonds  had  originally  been  sold  at  80,  and  that 
no  effort  had  been  made  to  amortize  the  discount.  In  addition,  this 
issue,  amounting  to  $988,000  did  not  mature  until  1940,  and  if  called 
prior  to  that  date,  was  subject  to  redemption  at  105.  Hence,  neither  the 
original  20  per  cent  discount  nor  the  premium  of  5  per  cent  which  must 
be  paid  to  present  holders  represented  any  actual  cash  investment. 

The  Commission  held  that  stock  should  not  be  issued  to  pay  discoimts 
and  premiums  upon  outstanding  bonds,  that  while  it  was  true  that  these 
bonds  had  been  issued  prior  to  the  advent  of  the  Commission,  yet  if  the 
issue  had  taken  place  under  its  approval,  the  company  would  have  been 
required,  as  a  matter  of  course,  to  amortize  the  discount  during  the  life 
of  the  bonds.  Therefore,  the  Commission  felt  that  both  the  discount 
and  the  premium  should  be  paid  by  the  company  out  of  current  income. 
The  face  value  of  the  bonds,  $988,000,  together  with  the  5  per  cent  pre- 

^  Matter  of  Application  of  the  New  Yorks  Edison  Company  for  Authority  to 
Issue  Additional  Stock,  2  P.S.C.R.,  1st  Dist.,  N.  Y.,  276.  Opinion  adopted  March  22, 
1910. 


CAPITAL  CONTROL  IN  NEW  YORK  165 

mium,  $49,400,  amounted  to  $1,037,400.  Of  this  amount,  the  Commis- 
sion would  allow  only  80  per  cent,  or  $790,400,  leaving  $247,000  to  be  met 
by  the  company  out  of  income. 

Inasmuch,  however,  as  it  appeared  that  the  applicant  was  urgently 
in  need  of  funds  for  extensions  and  additions,  the  Commission  did  decide 
to  allow  the  issue  of  the  full  amount  of  stock  asked  for,  upon  condition 
that  no  part  of  the  $247,000  be  used  to  pay  o£F  the  aforesaid  discount  or 
premium.* 

Refunding  Cannot  he  Used  to  Obtain  a  Higher  Rate  of  Return 
Without  Compensating  Advantages 

The  Commissions  have  sought  to  prevent  abuse  of  the  privilege  of 
refunding,  such  as,  for  instance,  the  issuing  of  new  securities  at  higher 
rates  than  those  paid  upon  existing  securities,  unless  it  could  be  proved 
that  such  a  change  was  warranted.  This  point  came  up  in  the  Green- 
wich and  Johnson ville  Railway  Company  case.^  The  apphcant  had 
outstanding  $500,000  of  4  per  cent  bonds  which  had  sixteen  years  to  run. 
It  desired  to  retire  them  immediately  with  forty-year  bonds  at  "not  over 
5  per  cent."  Held,  that  if  the  new  bonds  could  also  bear  4  per  cent 
interest  and  be  sold  to  advantage,  retirement  of  existing  bonds  would  not 
be  open  to  objection,  but  to  retire  a  4  per  cent  bond  having  sixteen  years 
to  run,  with  a  new  5  per  cent  bond  maturing  in  forty  years  did  not  seem 
proper  unless  proof  could  be  offered  that  the  appHcant's  treasury 
would  be  saved  from  loss,  and  that  the  interest  charges  for  the  sixteen 
years  would  not  be  increased  without  corresponding  increase  in  the 
company's  assets  in  property,  or  in  cash  to  be  devoted  to  construction  or 
improvements.  It  was  suggested  that  if  a  4}^  or  5  per  cent  rate  was 
necessary  for  new  bonds,  500  of  them  could  be  held  in  the  Treasury  of 
the  company  to  take  up  existing  bonds  upon  maturity  in  1924.  Petition 
denied. 

In  July,  1909,  the  Geneva  and  Auburn  Railway  Company  appHed 
for  authority  to  issue  5  per  cent  bonds  to  the  amount  of  $400,000,  with 
which  to  retire  outstanding  4  per  cent  bonds  to  the  amount  of  $450,000. 
The  holders  of  the  outstanding  bonds  were  willing  to  make  the  exchange, 

'  In  the  same  connection  see  Matter  of  Application  of  the  New  York  Municipal 
Railway  Corporation  for  permission  to  execute  a  mortgage  and  issue  bonds,  4  P.S.C.R., 
1st  Dist.,  N.  Y.  105,  and  especially  the  dissenting  opinion  of  Commissioner  Maltbie. 
The  Orders  in  this  case  were  entered  March  20,  1913. 

•Matter  of  Application  of  the  Greenwich  and  Johnsonville  Railway  Company 
for  Authority  to  Issue  Bonds,  1  P.S.C.R.,  2nd  Dist,  N.  Y.  90.  Decided  February 
18,  1908. 


166  CAPITAL  CONTROL  IN  NEW  YORK 

and  permission  was  granted.  This  exchange  made  an  increase  in  interest 
charges  of  $1,500  per  year,  but  the  Commission  was  convinced  that  it 
would  be  proper  to  authorize  this  greater  interest  rate  in  view  of  the 
fact  of  the  surrender  and  cancellation  of  the  excess  bonds  to  the  amount 
of  $50,000.  About  four  months  later  the  company  filed  another  applica- 
tion asking  for  authority  to  issue  its  6  per  cent  cumulative  preferred  stock 
to  the  amount  of  $50,000,  to  be  issued  to  the  bondholders  who  had  held 
the  $450,000  of  bonds.^°  This  application  was  based  upon  two  claims: 
First,  that  the  bondholders  had  surrendered  old  bonds  to  the  amount  of 
$450,000,  in  exchange  for  new  bonds  to  the  amount  of  $400,000;  second, 
that  these  same  bondholders  had  paid  to  the  company  $125,000,  in  cash 
which  the  company  had  used  for  its  own  purposes.  This  second  applica- 
tion was  denied,  the  Commission  holding  that  the  old  bonds  had  been 
refunded  upon  the  original  order  as  issued,  and  that  in  the  eyes  of  the 
Commission  there  were  now  no  outstanding  bonds  to  refund. 

Disapproval  of  Refunding  Plan  Injurious  to  Minority  Holders 
The  Central  New  England  Railway  Company  presented  to  the 
Second  District  Commission  a  refunding  scheme  which  the  latter  headed 
ofif  with  little  ceremony.^^  The  applicant  desired  consent  to  execute  a 
mortgage  upon  its  property  in  the  amount  of  $20,000,000,  and  to  issue 
bonds  under  the  mortgage  to  the  amount  of  $12,910,000.  The  company 
had  outstanding  common  stock,  $4,800,000,  preferred  stock,  $3,750,000; 
a  total  of  $8,550,000.  Of  this  stock,  the  New  York,  New  Haven  and 
Hartford  Railroad  Company  owned  a  total,  common  and  preferred,  of 
$7,826,000.  This  gave  the  New  Haven  practical  control  of  the  applicant 
company  which  also  had  outstanding  funded  and  other  indebtedness 
amounting  to  $12,320,000.  Of  this  indebtedness  the  New  Haven  held 
approximately  $10,000,000,  and  third  parties,  $2,330,000.  A  part  of 
this  indebtedness  consisted  of  certain  general  mortgage  income  bonds 
amounting  to  $7,250,000,  of  which  the  New  Haven  owned  $6,329,000, 
and  other  parties  approximately  $921,000.  These  bonds  had  been  out- 
standing ten  years  and  no  interest  had  ever  been  paid  upon  them. 

The  applicant  proposed  to  issue  4  per  cent  interest-bearing  bonds 
in  the  place  of  the  income-bonds  owned  by  the  New  Haven.  The 
remarkable  part  of  the  plan  was  that  under  the  proposed  mortgage  other 

"Matter  of  Application  of  the  Geneva  and  Auburn  Railway  Company  for 
authority  to  issue  stock,  2  P.S.C.R.,  2nd  Dist.,  N.  Y.  427.    Decided  May  17,  1910. 

"  Matter  of  Application  of  ^entral  New  England  Railway  Company  for  authority 
to  issue  bonds,  2  P.S.C.R.,  2nd  Dist.,  N.  Y.  205.    Decided  August  11,  1909. 


CAPITAL  CONTROL  IN  NEW  YORK  167 

parties  were  to  have  no  right  to  exchange  their  income-bonds  for  interest- 
bearing  bonds. 

This  mortgage  indenture  was  unique  in  being  a  tripartite  agreement, 
the  parties  being  the  Central  New  England  Railway  Company,  The 
New  York,  New  Haven  and  Hartford  Railroad  Company,  and  the  New 
York  Trust  Company.  The  last-named  party  was  the  trustee.  None  of 
the  other  holders  of  bonds  had  a  right,  without  the  permission  of  the 
New  Haven  Company,  to  the  benefits  of  the  mortgage.  These  were, 
in  express  terms,  reserved  to  the  parties  to  the  instrument. 

A  part  of  the  outstanding  bonds  which  the  applicant  sought  to  refund, 
had  unpaid  interest  coupons  attached  to  them  amounting  to  some 
$403,300.  Interest  upon  these  coupons  from  their  due-date  amounted 
to  $131,400.  All  of  these  bonds  and  attached  coupons  were  owned  by 
the  New  Haven,  and  the  apphcant  asked  authorization  to  issue  its 
interest-bearing  bonds  for  the  amount  of  the  unpaid  coupons,  and  the 
interest  thereon,  to  the  amount  of  $534,700. 

The  proposed  mortgage,  while  drawn  ostensibly  to  refund  all  the 
outstanding  indebtedness  of  the  applicant,  was  in  reality  so  drawn  that 
no  bonds  could  be  issued  by  the  trustee  to  refund  outstanding  bonds 
unless  such  outstanding  bonds  were  presented  either  by  the  applicant, 
or  by  the  New  Haven  Company.  Since  the  latter  owned  an  overwhelm- 
ing majority  of  the  stock  of  the  applicant,  the  minority  bond-holders 
would  be  wholly  in  its  power.  The  amount  of  bonds  owned  by  minority 
holders,  and  which,  under  the  proposed  mortgage,  could  not  be  refunded 
as  of  right,  amounted  to  $2,331,000. 

Concerning  the  bond-interest  represented  by  the  unpaid  coupons,  the 
Commission  cited  the  case  of  Bailey  vs.  County  of  Buchanan,  115,  N.  Y., 
301,  to  the  following  effect: 

past  due  coupons  payable  to  bearer,  even  when  detached  from  the  bonds,  until  nego- 
tiated or  used  in  some  way  serve  no  independent  purpose,  but  while  they  are  in  the 
hands  of  the  holders  of  the  bonds  they  remain  mere  incidents  of  the  bonds  and  have  no 
greater  or  other  force  or  effect  than  a  stipulation  for  the  payment  of  interest  contained 
in  the  bonds;  .  .  . 

As  to  the  interest  due  upon  the  coupons  themselves,  the  same  decision 
held  that  "it  is  entirely  certain  that  this  interest  upon  interest  is  not  a 
legal  obhgation  of  the  applicant. " 

The  Commission  held  that  the  conversion  of  income-bonds  into  fixed- 
rate-of-interest  bonds,  when  such  income-bonds  had  never  paid  any 
return  because  of  the  inability  of  the  company  to  earn  it,  was  im- 
reasonable.    For,  unless  there  should  be  a  great  change  in  the  earning 


168  CAPITAL  CONTROL  IN  NEW  YORK 

capacity  of  the  company,  the  only  result,  it  was  held,  would  be  to  throw 
it  into  the  hands  of  receivers;  besides,  third  persons  owning  these  bonds 
to  the  extent  of  $900,000,  were  to  have  the  benefit  only  of  the  income 
provision.  The  apphcation  was  denied  in  toto,  but  it  serves  as  an 
instance  of  what  might  happen  in  the  absence  of  administrative  regu- 
lation. 

Bond  Premium  Charged  to  Capital 

About  a  year  later  the  appUcant  again  applied  for  approval  of  a 
mortgage,  this  time  to  the  amount  of  $25,000,000,  but  in  a  form  to  meet 
the  requirements  of  the  Commission  in  almost  every  respect.^^ 

The  company  proposed  to  reduce  $1,250,000  of  first  mortgage  bonds 
not  yet  matured,  but  which  could  be  called  at  105,  the  premium  amount- 
ing to  $62,500.  The  Commission  in  this  regard  held  that  the  benefits  to 
be  derived  from  the  general  refunding  scheme  were  so  great  as  to  justify 
the  5  per  cent  premiimi.  This  is  worthy  of  note,  as  bond  premium  for 
redemption  is  not  usually  regarded  as  properly  chargeable  to  capital. 

During  the  interval,  the  financial  condition  of  the  company  had  so 
greatly  improved  that  it  was  able  to  pay  5  per  cent  interest  upon  its 
income  bonds.  As  there  was  every  reason  to  believe  that  the  financial 
improvement  would  continue  the  Commission  felt  justified  in  permitting 
the  refunding  of  these  5  per  cent  income-bonds  by  4  per  cent  fixed-interest 
bonds,  thus  saving  a  considerable  amount  in  fixed  charges.  Accumulated 
interest,  to  the  amount  of  $152,000,  was  required  to  be  paid  out  of  income. 

High  Redemption  Premium- Allowed  Under  Peculiar  Circumstances 
Another  pecuhar  instance  was  involved  in  the  application  of  the  Bronx 
Gas  and  Electric  Company  for  approval  of  an  issue  of  bonds.^^  The 
applicant's  plant  was  situated  in  a  district  of  rapidly  increasing  popula- 
tion, and  there  was  consequently  urgent  need  for  a  large  amount  of  capi- 
tal in  the  near  future  for  improvements  and  extensions.  There  was 
already  outstanding  a  first  mortgage,  and  bonds  under  it  to  the  amount 
of  $500,000.  No  more  bonds  could  be  issued.  A  second  mortgage,  or 
a  consohdated  mortgage  seemed  impracticable,  for  the  reason  that  bonds 
issued  thereunder  could  be  marketed  only  at  heavy  discount.  The  same 
condition  was  held  to  be  true  with  regard  to  an  increase  of  the  common 

"Matter  of  Application  of  the  Central  New  England  Railway  Company  for 
authority  to  issue  bonds,  2  P.S.C.R.,  2nd  Dist.,  N.  Y.  591.    Decided  October  25, 1910. 

"  Matter  of  Application  of  the  Bronx  Gas  and  Electric  Company  for  Approval 
of  an  Issue  of  Bonds,  2  P.S.C.R.,  1st  Dist.,  N.  Y.  150.  Opinions  adopted  November 
12,  1909. 


CAPITAL  CONTROL  IN  NEW  YORK  169 

or  preferred  stock.  The  only  practicable  plan  seemed  to  be  the  satisfying 
of  the  present  mortgage  by  a  refunding  of  the  bonds,  and  the  granting 
of  a  new  mortgage  adequate  to  the  needs  of  the  company  ($1,500,000 
was  plaimed).  As  the  existing  mortgage  contained  no  redemption  clause, 
it  was  claimed  that  a  sufficient  premium  must  -be  offered  to  induce  the  pre- 
sent holders  to  voluntarily  surrender  their  bonds.  This  the  latter  were 
willing  to  do  for  a  ten  per  cent  premium,  and  the  apphcant  now  asked  for 
permission  to  issue  $50,000  of  additional  bonds  as  premium. 

In  view  of  the  great  future  needs  of  the  company  the  Commission 
allowed  the  amount  asked  for  this  purpose,  provided  that  the  whole  issue 
was  retired.  As  the  proposed  new  bonds  could  be  paid  off  after  ten  years, 
it  was  made  a  further  condition  of  the  certificate  of  approval  that  a  fund 
be  accumulated  out  of  annual  payments  from  earnings  which  should 
amount  to  $50,000,  in  ten  years. 

Allowance  of  Issue  of  Bonds  to  Meet  Discount  on  a  Refunding  Issue 
Several  instances  occurred  in  which  the  Commissions  felt  constrained 
to  depart  from  the  accepted  theories  of  sound  finance  because  of  pecuUar 
circumstances.  A  case  in  point  was  the  application  of  the  Manhattan 
Railway  Company.^*  This  was  really  a  double  application.  The  com- 
pany desired  to  issue  4  per  cent  bonds  in  the  amount  of  $10,818,000,  to 
provide  funds  for  the  retirement  of  an  equal  amount  of  outstanding  6 
per  cent  bonds,  and  also  to  issue  $894,000  of  additional  bonds  to  meet 
the  possible  necessity  of  disposing  of  the  $10,818,000  of  4  per  cent  bonds 
at  less  than  par.  The  Commission  took  the  position  that,  ordinarily,  it 
would  not  favor  the  issuance  of  bonds  to  be  sold  at  less  than  par,  and  that 
any  deficiency  due  to  discount  on  the  sale  of  bonds  should  be  treated  as 
an  operating  expense  to  be  met  from  income,  rather  than  by  the  sale  of 
long-term  bonds,  as  here  suggested,  and  which  would  swell  the  capitahza- 
tion  of  the  company.  It  seems  that  a  provision  of  the  existing  mortgage 
under  which  the  proposed  bonds  were  to  be  issued,  provided  for  the  certi- 
fication of  bonds  by  the  trustee  for  extensions  of  line  to  an  amount  not  to 
exceed  $600,000,  per  mile  of  double  track.  Double  track  extensions  to 
the  extent  of  1.49  miles  had  been  made  for  which  no  bonds  had  ever  been 
certified.  This  would  allow  said  trustees  to  certify  additional  bonds  to 
the  amount  asked  for,  namely  $894,000.  Further,  it  appeared  that  the 
applicant  operated  none  of  its  lines,  but  had  leased  them  all  to  the  Inter- 
borough  Rapid  Transit  Company,  which  paid  the  applicant  merely  a 

"  Matter  of  Application  of  the  Manhattan  Railway  Company  for  leave  to  issue 
bonds,  1  P.S.C.R.,  1st  Dist.,  N.  Y.  205.    Order  adopted  June  12,  1908. 


170  CAPITAL  CONTROL  IN  NEW  YORK 

nominal  rental,  in  addition  to  7  per  cent  annual  dividends  to  the  stock- 
holders of  the  appHcant.  Hence,  the  latter  could  not  utilize  earnings 
from  operation  to  make  up  a  discount  in  the  sale  of  bonds,  or  incur  a 
floating  debt  for  that  purpose,  as  an  operating  company  might  do.  On 
the  other  hand,  it  did  not  seem  probable  that  the  $10,818,000,  of  4  per 
cent  bonds  couid  be  sold  at  par.  The  Commission  held  that,  in  view  of 
the  pecuKar  cicumstances,  the  additional  issue  was  reasonably  necessary 
for  the  discharge  or  refunding  of  the  aforesaid  $10,818,000,  of  6  per  cent 
bonds,  and  the  order  was  granted  subject  to  three  conditions  as  follows: 
(1)  That  only  so  many  additional  bonds  should  be  sold  as  were  necessary 
for  the  purpose  stated;  (2)  that  the  bonds  issued  for  refunding  should 
be  offered  for  sale  at  a  public  letting  before  being  issued  and  sold  pri- 
vately; (3)  that  a  strict  account  should  be  kept  of  the  proceeds  received 
and  the  disposition  of  the  same,  subject  to  audit  by  the  Commission. 

Refunding  Obligations  Assumed  Prior  to  the  Taking  Effect  of 
the  Public  Service  Commissions  Law  are  Within  the 
Jurisdiction  of  the  Commissions 

Another  mooted  question  was  the  jurisdiction  of  the  Commissions  with 
regard  to  the  refunding  of  obligations  assumed  prior  to  the  taking  effect 
of  the  Public  Service  Commissions  Law,  or  to  agreements  of  conversion 
entered  into  prior  to  that  date. 

The  Brooklyn  Union  Gas  Company  had,  in  1904,  sold  at  par  $3,000,000 
of  6  per  cent  debentures  which  by  their  terms  were  convertible  into 
capital  stock  of  the  company  after  three  years,  par  for  par.  It  had  at  the 
same  time  increased  its  authorized  capital-stock  to  provide  for  such 
conversion.  It  now  applied  for  leave  to  consummate  such  conversion,  or, 
if  the  debenture-holders  did  not  desire  to  avail  themselves  of  the  option, 
to  use  the  proceeds  of  the  sale  of  the  stock  to  pay  them  off.^  This  was 
considered  to  be  a  lawful  refunding  within  the  provision  of  the  Pubhc 
Service  Commissions  Law  and  the  application  was  approved  upon  condi- 
tion that  the  stock  be  used  only  for  the  purpose  stated. 

The  applicant  suggested,  however,  that  inasmuch  as  contract  rights 
and  the  obligation  to  issue  this  stock  had  become  fixed  prior  to  the  enact- 
ment of  the  Public  Service  Commissions  Law,  the  necessary  stock  could 
be  issued  without  the  approval  of  the  Commission.  Counsel  to  the  Com- 
mission held  that  it  was  not  to  be  thought  that  the  Legislature  deemed 
it  in  the  pubhc  interest  that  parties  to  such  pre-existing  contracts  should 

"  Matter  of  Application  of  the  Brooklyn  Union  Gas  Company,  1  P.S.C.R.,  1st 
Dist.,  N.  Y.  273.    Opinion  adopted  July  17,  1908. 


CAPITAL  CONTROL  IN  NEW  YORK  171 

assume  to  themselves  authority  to  decide  upon  their  rights  and  privileges 
pursuant  thereto;  that  such  contracts  and  such  acts  as  tended  to  fix 
definitely  the  rights  and  obUgations  of  the  parties  should  be  submitted  to 
the  Commission  and  its  authority  obtained  for  the  issue  of  the  stock  in 
accordance  with  the  contract  and  the  law,  since  it  was  to  be  assumed  to 
be  the  duty  of  the  Commission  to  see  that  the  rights  of  security  holders 
were  secured  to  them,  and  that  the  rights  of  the  company  and  the  public 
were  protected. 

Where  the  same  contention  was  made  in  the  Second  District,  a  simi- 
lar position  was  taken.^^ 

Permission  Granted  to  Release,  Under  a  Refunding  Issue, 
Property  Pledged  Under  the  Original  Issue 

In  a  refunding  application  of  The  Delaware  and  Hudson  Raihoad 
Company,  it  was  proposed,  in  refunding  certain  obHgations,  to  release  a 
part  of  the  property  pledged.  Application  was  made  for  a  first  and 
refunding  mortgage  upon  appHcant's  railroad  property  alone,  and  per- 
mission was  asked  thereunder  for  the  setting  aside  of  new  bonds  for  the 
retirement  of  $5,000,000  of  7  per  cent  bonds  which  would  mature  in  a 
few  years.  It  appeared  that  the  mortgage  underlying  these  bonds 
included,  as  security,  the  company's  railroad  property  in  Pennsylvania, 
and  also  certain  coal  lands  there  situated,  and  which  were  the  private 
property  of  the  corporation,  while  the  proposed  mortgage  was  based  upon 
all  the  railroad  property  of  the  company,  but  did  not  include  the  coal 
lands.  The  result  would  be  to  release  the  private  property  aforesaid 
from  the  incumbrance  and  shift  it  wholly  to  the  company's  property 
which  was  devoted  to  public  use. 

The  evidence  offered  showed  that  the  capital  acquired  through  the 
original  bond  issue  had  been  appHed  to  the  acquisition  and  improvement 
of  certain  railway  properties  in  New  York  and  Pennsylvania.  These 
were  now  parts  of  the  applicant's  main  system.  It  also  appeared  that 
none  of  the  proceeds  had  been  used  upon  said  coal  lands,  although  they 
had  been  pledged  as  security  under  the  mortgage.  It  was  therefore 
held  that  this  outstanding  issue  of  bonds  constituted  a  debt  with  which 
the  railway  alone  might  be  fairly  charged. 

As  evidence,  however,  of  the  Commission's  determination  to  keep 
a  strict  hold  upon  the  use  of  the  bonds,  a  provision  was  inserted  in  the 

"  Matter  of  Application  of  the  Delaware  and  Hudson  Company  for  Authority 
to  issue  bonds,  1  P.S.C.R.,  2nd  Dist.,  N.  Y.  392.  Decided  December  7,  1908.  See 
pages  406  and  407. 


/ 


/  172  CAPITAL  CONTROL  IN  NEW  YORK 

proposed  mortgage  to  the  effect  that,  when  any  of  the  bonds  set  aside 
for  the  retirement  of  underlying  bonds  were  found  to  be  unnecessary 
for  that  purpose  because  such  underlying  bonds  had  been  obtained  by  the 
apphcant  through  the  use  of  fimds  otherwise  derived,  such  bonds  under 
the  new  mortgage  should  be  subject  to  issue  only  for  future  acquisition 
of  property,  construction,  improvements  and  extensions.  The  Commis- 
sion further  emphasized  the  fact  that,  even  in  that  case,  such  an  issue 
could  be  effected  only  upon  special  appUcation  to  and  authority  granted 
by  the  Commission. 


CHAPTER  XIV 

Reorganization 

Reorganization  is  generally  brought  about  by  a  default  of  interest 
upon  bonds.  This  results  in  foreclosure  of  the  mortgage  and  forced 
sale  of  the  property.  It  involves  a  change  of  ownership,  in  name,  at 
least.  Legally,  a  new  corporation  is  brought  into  being.  Under  the 
Stock  Corporation  Law  of  the  State  of  New  York,  the  new  company  had 
authority  to  issue  securities  to  the  full  amount  of  those  outstanding  under 
the  old  company,  plus  any  new  money  advanced  under  the  terms  of  the 
reorganization  plan. 

Reorganization  Practice  Since  1850 
The  General  Railroad  Law  of  1850  had  authorized  railroad  com- 
panies to  mortgage  their  property  and  franchises,  and,  naturally,  a  pur- 
chaser on  foreclosure  would  have  the  right  to  maintain  and  operate  the 
railroad.  Chapter  282,  of  the  Laws  of  1854,  authorized  such  a  person 
to  form  a  new  corporation  for  that  purpose.  In  the  year  preceding,  a 
statute  had  been  passed  (Laws  of  1853,  Chap.  502)  which  provided  that 
in  the  case  of  a  foreclosure  sale  of  a  railroad  or  plankroad,  any  stock- 
holder of  the  defunct  company  could  at  any  time  within  six  months  pay 
to  the  purchaser  a  share  of  the  price  for  which  the  property  sold,  equal 
to  the  proportion  his  stock  in  the  old  company  had  been  to  the  whole 
amount  of  capital  stock.  He  thereupon  became  vested  with  the  same 
interest  in  the  property  that  he  had  had  formerly.  This  remained  the 
law,  practically,  till  1874.  During  this  period  a  large  number  of  railroad 
foreclosures  occurred  all  over  the  country,  and  it  had  become  a  common 
practice,  in  such  cases  of  reorganization  after  foreclosure,  to  allow 
stockholders  and  holders  of  junior  securities  some  interest  in  the  new 
corporation.  The  stockholders  were  often  required  to  contribute  fresh 
capital.  This  was  the  easiest  source  from  which  to  obtain  money,  as  the 
old  stockholders  would  hope  to  retrieve  some  of  their  original  investment. 
If  a  property  had  failed  because  of  gross  mismanagement,  it  was  probable 
that  a  change  to  efficient  management  would  gradually  place  the  com- 
pany's affairs  in  shape  to  permit  of  the  recovery  of  the  full  investment. 
Such  successful  reorganizations  have  been  by  no  means  infrequent.  Or, 
again,  a  property,  such  as  a  railroad,  may  be  ten  or  fifteen  years  ahead 
of  its  time.  This  was  especially  true  in  the  United  States  during  the 
period  mentioned.    A  railroad  in  a  sparsely  populated  section  might  go 


174  CAPITAL  CONTROL  IN  NEW  YORK 

bankrupt  because  of  insuflficient  business,  whereas  the  growth  of  popula- 
tion and  general  development  might,  in  the  course  of  ten  years,  change 
it  into  a  very  lucrative  proposition  and  fully  justify  (both  on  the  part  of 
original  stockholders  and  on  the  part  of  a  law  which  arranged  for  such  a 
plan)  what  seemed  at  the  time  to  be  throwing  good  money  after  bad. 

It  would  seem  then  that,  in  a  country  susceptible  of  largely  increased 
development,  a  reorganization  law  which  provided  for  the  issue  of 
securities  by  the  new  company  upon  the  basis  of  the  outstanding  securi- 
ties of  the  old  company,  and  which  allowed  old  stockholders,  who, 
ordinarily,  would  have  had  their  claims  wiped  out,  to  retain  their  interest 
upon  the  payment  of  additional  funds,  had  a  sound  basis.  In  a  large 
number  of  cases  the  end  justified  the  means. 

To  apply  such  a  theory,  however,  to  a  property  which  had  been 
scuttled  fore  and  aft,  and  whose  business  had  already  reached  the  height 
of  its  possibilities,  due  to  the  full  development  of  the  community  served 
and  a  marked  increase  of  competition,  was  a  different  matter.  The  Third 
Avenue  Railroad,  in  New  York  City,  as  a  case  in  point,  had  practically 
reached  its  possibihties  in  the  way  of  earnings,  by  1906,  and  was  being 
subjected  to  serious  and  increasing  competition  by  the  underground 
transit  system.  It  had  been  leased  to  the  Metropohtan  Street  Railway 
Company,  and  under  this  lease  had  been  saddled  with  a  heavy  issue  of 
bonds  (approximately  $37,000,000).  The  proceeds  of  about  $13,000,000 
of  these  bonds  could  not  satisfactorily  be  accounted  for. 

In  the  hearings  upon  the  second  reorganization  plan  of  the  Third 
Avenue  Company,  a  statement  of  the  secretary  of  the  defunct  company, 
relative  to  the  management  of  the  company's  affairs  during  the  period 
while  it  was  leased  to  the  Metropohtan  Street  Railway  Company,  was 
offered  in  evidence.^    This  statement  was  to  the  following  effect: 

.  .  .  large  sums  of  money  were  raised  by  the  Metropolitan  Street  Railway  Company 
which  were  not  expended  upon  property  of  this  defendant  (Third  Avenue  Railroad 
Company)  or  in  any  business  or  concern  of  this  defendant,  but  were  wrongfully  ex- 
pended by  said  Metropolitan  Street  Railway  Company  for  its  separate  purposes. 

Under  such  circumstances,  asking  the  old  stockholders  to  contribute 
additional  funds  actually  is  throwing  good  money  after  bad,  as  instanced 
by  the  stock  of  the  reorganized  company  in  this  case,  (Third  Avenue 
Railway  Company)  which  sold  as  low  as  $17  per  share  in  the  winter  of 

^Matter  of  Application  of  Bondholder's  Committee  for  Approval  of  the  issue 
of  Bonds  and  Stock,  2  P.S.C.R.,  1st  Dist.,  N.  Y.  347.  Opinion  adopted  July  29, 1910. 
See  top  page  385. 


CAPITAL  CONTROL  IN  NEW  YORK  175 

1916-1917,  although  $45  per  share  of  new  money  was  paid  in  upon  re- 
organization in  1912. 

Such  issues  of  new  securities  upon  the  basis  of  the  old  are  a  menace 
both  to  the  investing  and  to  the  travelling  pubhc.  The  former  are 
invited  to  purchase  bonds  upon  which  interest  cannot  be  met,  and,  as 
a  result,  the  consuming  public  is  subjected  to  the  impairment  of  service 
in  facilities  involved  in  frequent  receiverships.  It  would  seem,  therefore, 
that  a  law  whose  liberal  provisions  may  be  justifiable  and  distinctly 
helpful  to  the  business  interests  of  a  community,  state,  or  nation,  in  its 
formative  period,  may  cause  confusion  and  embarrassment  to  all  interests 
concerned  when  the  period  of  full  development  has  been  reached,  because 
the  element  of  elasticity,  which  was  the  only  foundation  for  such  a  plan 
has  disappeared. 

Apparently,  the  value  of  the  property  is  then  the  only  basis  for  a 
sound  and  enduring  reorganization.  Money  lost  in  the  original  venture 
must  be  faced  just  as  any  other  loss. 

Reorganization  Under  the  Public  Service  Commissions  Law 
The  Public  Service  Commissions  Law  introduced  a  marked  change 
of  poUcy  with  regard  to  utility  capitalization,  and  in  such  a  period  of 
adjustment  between  new  and  old  regimes  losses  are  inevitable.  The  day 
of  judgment  may  be  deferred,  but  cannot  be  sidestepped,  and  the  sooner 
it  is  met  the  better  for  all  concerned. 

The  Public  Service  Commissions  Law,  as  originally  enacted,  was  sub' 
sequently  found  to  be  defective  in  the  power  which  it  conferred  upon  the 
Commissions  in  dealing  with  reorganizations.  This  was  due  to  the  fact 
that  it  failed  to  embody  specific  powers  in  the  treatment  of  reorganiza- 
tions, whereas  the  existing  Stock  Corporations  Law,  in  Sections  9  and  10, 
did  bestow  upon  corporations  and  groups  of  individuals  specific  powers 
for  the  reorganization  of  corporations.  It  is  true  that  the  spirit  of  the 
Pubhc  Service  Commissions  Law  supported  the  theory  that  securities 
should  not  be  authorized  by  the  Commissions  in  excess  of  the  value  of  the 
corporate  property,  and  no  doubt  the  framers  of  that  law  felt  that  this 
general  rule  would  apply  to  corporations  in  process  of  reorganization 
just  as  well  as  to  new  ones.  The  courts,  however,  when  they  had  an 
opportunity  to  pass  upon  the  question,  took  the  position  that  specific 
provisions  of  an  existing  law  were  not  repealed,  by  implication,  by  a  sub- 
sequent general  law.  It  was  asserted  that  the  usage  of  the  courts 
frowned  upon  such  tendencies. 


176  CAPITAL  CONTROL  IN  NEW  YORK 

During  the  period  preceding  a  judicial  interpretation  of  this  phase  of 
the  Pubhc  Service  Commissions  Law  both  Commissions  proceeded  upon 
the  assumption  that  securities  issued  by  a  reorganized  company  should 
not  exceed  the  value  of  the  property  at  the  time  of  the  reorganization. 
This  might  be  called  the  first  period  in  the  handling  of  reorganization 
cases,  during  which  the  Third  Avenue  case^  in  the  First  District,  the 
Port  Jervis  case,^  and  the  Genesee  Light  &  Power  case*  in  the  Second  Dis- 
trict were  disposed  of. 

The  decision  in  the  Third  Avenue  case  was  challenged  in  the  courts 
and  in  a  decision  handed  down  by  the  New  York  Court  of  Appeals  upon 
November  21,  1911,  the  ruling  of  the  First  District  Commission  was 
reversed.^  This  decision  left  the  matter  of  reorganization  of  a  corpora- 
tion practically  as  it  was,  prior  to  the  enactment  of  the  Pubhc  Service 
Commissions  Law,  the  Commissions  having  merely  ministerial  powers 
in  seeing  that  reorganizations  were  carried  out  according  to  the  provisions 
of  the  existing  reorganization  statute.  This  might  be  called  the  second 
period,  and  under  it  came  the  reapplication  of  the  Third  Avenue  case^ 
and  the  Metropolitan  case''  in  the  First  District,  and  the  case  of  the  Adi- 
rondack Power  Company*  in  the  Second  District. 

During  this  period  companies  in  process  of  reorganization  were  able 
to  defy  the  Commissions  by  putting  out  securities  to  the  full  amount  of 
the  outstanding  issues  of  the  old  companies,  so  that  the  Commissions 
were  compelled  to  act  in  a  purely  ministerial  capacity. 

*  Matter  of  Application  of  the  Bondholder's  Committee  of  the  Third  Avenue 
Railroad  Company  for  Approval  of  an  Issue  of  Bonds  and  Stock,  2  P.S.C.R.,  1st  Dist., 
N.  Y.  94.  Opinion  adopted  September  29,  1909.  (First  Reorganization  Plan.) 
See  also  Matter  of  Application  of  Bondholder's  Committee  of  Third  Avenue  Railroad 
Company,  2  P.S.C.R.,  1st  Dist.,  N.  Y.  347.  Opinion  adopted  July  29,  1910.  (Second 
Reorganization  Plan.) 

'  Matter  of  Petitions  of  the  Port  Jervis  Light  and  Power  Company  and  the  Port 
Jervis  Traction  Company  for  Approval  of  the  issue  of  bonds  and  stock,  2  P.S.C.R., 
2nd  Dist.,  N.  Y.  315.     Decided  January  6,  1910. 

*  Matter  of  Application  of  the  Genesee  Light  and  Power  Company  for  Authority 
to  issue  capital  stock,  2  P.S.C.R.,  2nd  Dist.,  N.  Y.  443.     Decided  May  17,  1910. 

»203  N.  Y.  299. 

« Matter  of  Application  of  the  Bondholder's  Committee  of  the  Third  Avenue  Rail- 
road Company  for  Approval  of  an  Issue  of  Stock,  3  P.S.C.R.,  1st  Dist.,  N.  Y.  21. 
Opinions  adopted  January  17,  1912. 

^  Matter  of  the  Plan  for  Reorganization  of  the  Metropolitan  Street  Railway  Com- 
pany and  the  proposed  issue  of  securities  in  accordance  therewith,  3  P.S.C.R.,  1st 
Dist.,  N.  Y.  113.    Opinion  adopted  February  27,  1912. 

*  Matter  of  Application  of  the  Adirondack  Electric  Power  Corporation  to  issue 
stock  and  bonds,  3  P.S.C.R.,  2nd  Dist.,  N.  Y.  242.    Decided  February  19,  1912. 


CAPITAL  CONTROL  IN  NEW  YORK  177 

In  1912  an  amendment  was  added  to  the  Public  Service  Commissions 
Law  giving  the  Commissions  the  needed  sp>ecific  powers  to  base  approval 
of  security  issues  of  reorganized  corporations  upon  the  value  of  the  proper- 
ty. The  time  extending  from  the  adoption  of  this  amendment  to  the 
present  might  be  called  the  third  period.  In  the  Second  District  one 
important  reorganization  case,  that  of  the  West  Chester  Street  Railway 
Company,^  was  handled  in  accordance  with  the  powers  conferred  by  the 
1912  amendment.  In  the  First  District  there  was  the  case  of  the  Mid- 
Crosstown  Railway  Company,^''  and  a  little  later  came  the  Dry  Dock 
case,  which  is  of  peculiar  significance. 

The  Dry  Dock  case,"  while  it  is  ostensibly  a  refunding  case,  seems  to 
constitute  an  evasion  of  the  amended  reorganization  section  of  the  Public 
Service  Commissions  Law.  In  fact,  if  we  regard  the  adoption  of  the 
1912  amendment  to  the  Pubhc  Service  Commissions  Law  as  opening  a 
third  period,  in  which  the  Commissions  felt  assured  that  they  actually 
had  the  powers,  in  dealing  with  companies  in  process  of  reorganization, 
which  they  thought  they  had  originally,  then  we  may  regard  the  results 
of  the  application  of  the  Dry  Dock,  East  Broadway  and  Battery  Railroad 
for  the  issue  of  bonds  for  refunding  outstanding  securities,  as  opening 
a  fourth  period.  For  it  would  seem  that  corporations  have  found  a  way 
to  circumvent  the  reorganization  amendment  of  1912  by  getting  the 
practical  results  of  a  reorganization,  as  permitted  prior  to  that  amend- 
ment, through  a  technical  "refunding"  procedure. 

'  Matter  of  Application  of  the  West  Chester  Street  Railroad  Company  for  Author- 
ity to  Issue  Stock,  3  P.S.C.R.,  2nd  Dist.,  N.  Y.  286.     Decided  April  24,  1912. 

'"  Matter  of  Petition  of  the  Mid-Crosstown  Railway  Company,  Inc.,  3  P.S.C.R.» 
1st  Dist.,  N.  Y.  416.     Opinion  adopted  November  1,  1912. 

"  Matter  of  Application  of  the  Dry  Dock  East  Broadway  and  Battery  Railroad 
Company  to  Issue  Bonds,  5  P.S.C.R.,  1st  Dist.,  N.  Y.  141.  Opinion  filed  March  3, 
1914. 


CHAPTER  XV 

Reorganization  Under  the  Public  Service  Commission  Law — 

First  Period 

The  Port  Jervis  case  was  ideal  in  many  ways.^  It  came  during  the 
early  period  when  the  Commissions  thought  they  possessed  the  necessary 
powers.  The  (Second  District)  Commission  endeavored  to  base  its 
authorization  of  the  security  issues  in  this  case  upon  the  value  of  the 
property,  and  the  applicant  cooperated  in  the  same  spirit.  As  a  result, 
a  considerable  amount  of  overcapitalization  in  the  old  securities  was 
eliminated,  and  the  reorganized  corporations  were  started  upon  a  sound 
financial  basis. 

The  predecessor  company  had  furnished  gas,  electricity,  and  traction 
service.  The  gas  and  electrical  business  had  shown  some  profit  over 
operating  expenses,  but  the  street  railway  had  not.  Because  of  over- 
capitalization the  company  had  not  been  able  to  meet  the  requirements 
of  the  Commission  in  the  way  of  improved  service  and  under  foreclosure 
sale  by  the  bondholders  had  been  bought  in  for  them.  Two  new  com- 
panies had  been  organized,  and  these  now  applied  to  the  Commission 
for  approval  of  their  plan  of  capitalization. 

The  Port  Jervis  Light  and  Power  Company,  one  of  the  newly  or- 
ganized corporations,  presented  a  petition  respecting  its  capitalization  as 
a  successor  corporation  to  the  Port  Jervis  Electric  Light,  Power,  Gas  and 
Railroad  Company  in  the  taking  over  and  operating  of  the  gas  and  elec- 
tric properties,  while  the  Port  Jervis  Traction  Company,  the  second  of 
the  new  companies,  applied  for  capitalization  as  successor  in  the  taking 
over  and  operating  of  the  street  railway  property. 

At  the  time  of  the  foreclosure  sale  the  outstanding  capitalization  of 
the  old  company  was  made  up  of  : 

Capital  stock  $450,000. 

Bonds  285,000. 


Total  $735,000. 


At  the  sale  the  properties  had  been  bought  in  for  the  bondholders,  the 
gas  and  electric  properties  for  $225,000,  and  the  street  raihoad  property 
for  $25,000. 

*  Matters  of  Petitions  of  the  Port  Jervis  Light  and  Power  Company  and  of  the 
Port  Jervis  Traction  Company,  2  P.S.C.R.,  2nd  Dist.,  N.  Y.  315.  Decided  January  6, 
1910. 


CAPITAL  CONTROL  IN  NEW  YORK  179 

The  reorganization  plan  submitted  by  the  apphcants  provided  as 
follows:  That  the  capital  stock  of  the  old  company,  amounting  to 
$450,000,  should  be  wiped  out;  that  the  bonds  of  the  old  company, 
$285,000  in  all,  should  be  exchanged  for  the  capital  stock  of  the  new 
companies  according  to  the  amount  of  capital  stock  which  the  Commis- 
sion should  see  fit  to  approve;  that,  in  addition,  bonds  of  the  new  com- 
pany should  be  issued  to  meet  the  expenses  of  reorganization,  and  the 
cost  of  necessary  improvements  and  extensions  to  the  properties.  The 
combined  capital  asked  for  by  the  two  new  companies  amounted  to 
$517,000,  a  reduction  of  $218,000,  or  practically  30  per  cent  from  the 
capitalization  of  the  old  company. 

The  traction  property  had  been  so  unsuccessful  that  its  credit  was 
very  low,  and  bonds  based  solely  upon  this  property  could  have  been  sold 
only  at  a  great  sacrifice.  Hence,  the  Light  and  Power  Company  sug- 
gested the  plan  of  taking  them  over  and  then  issuing  an  additional 
amount  of  bonds  of  its  own.  This  feature  met  with  the  approval  of  the 
Commission. 

Fair  Value  of  Property  Basis  Accepted  by  the 
Applicant  Corporation 

The  applicant  companies  themselves  conceded  that  the  capital  to  be 
issued  should  be  based  upon  the  present  value  of  the  properties  and  the 
added  cost  of  necessary  improvements  and  additions,  plus  reorganization 
expenses. 

The  Commission,  after  investigation,  decided  that  securities  should 
be  authorized  for  a  total  capitalization  of  $390,000,  a  reduction  of 
$345,000,  or  47  per  cent  from  the  capitalization  of  the  old  company,  and 
a  reduction  of  $127,000,  or  practically  25  per  cent  from  that  asked  for 
by  the  applicant  companies. 

The  feature  of  the  plan  by  which  the  stock  of  the  two  companies 
was  to  be  paid  to  the  bondholders,  who  were  the  present  owners  of  the 
properties,  was  approved.  The  amount  of  stock  asked  for  by  the 
appUcant,  $317,000,  was  reduced  by  the  Commission  to  $137,500,  whereas 
the  bonds  of  the  old  company  for  which  the  stock  was  to  be  exchanged, 
amounted  to  $288,000. 

However,  as  stock  is  elastic  in  value,  so  long  as  a  bondholder  got  his 
proportionate  share  of  all  the  stock,  the  amount,  in  itself,  would  make 
no  difference,  as  he  would  have  his  share  in  the  ownership  of  the  property, 
whether  he  got  two  shares  or  one.  Of  course,  if  subsequently  there  was 
issued  additional  stock  in  which  he  could  not  acquire  a  proportionate 
amount,  this  would  fail  to  hold  true. 


180  CAPITAL  CONTROL  IN  NEW  YORK 

The  application  of  the  Genesee  Light  and  Power  Company^  was 
marked,  upon  the  part  of  the  corporation,  by  a  spirit  of  aggressive 
challenge  of  the  Commission's  powers.  The  applicant  seemed  unwilling 
to  recognize  the  passing  of  the  old  regime  of  unbridled  license  in  utility 
financing. 

Apphcation  was  made  for  authorization  to  issue  capital  stock  to  the 
amount  of  $250,000,  consisting  of  $150,000,  common  and  $100,000,  pre- 
ferred stock,  as  consideration  for  the  conveyance  to  the  corporation  of  the 
property  formerly  owned  by  the  Genesee  County  Electric  Light,  Power 
and  Gas  Company.  The  latter  had  been  an  operating  company,  but 
had  been  unable  to  meet  its  obligations,  and  the  property  and  rights  of 
the  company  had  been  sold  at  judicial  sale.  At  this  sale  trustees  for  a 
bondholders'  association  of  a  Maine  corporation,  known  as  the  Genesee 
Niagara  Power  Company,  bought  the  property  for  $101,500,  which 
sum  paid  the  debts  of  the  old  company  and  left  the  property  free.  The 
trustees  for  the  bondholders'  association  now  owned  the  property  and  had 
associated  themselves  together  under  section  9  and  10  of  the  Stock  Cor- 
poration Law  as  a  corporation,  and  asked  for  capital,  as  above,  for  the 
transfer  by  the  trustees  to  the  corporation  of  the  aforesaid  property. 

The  old  company  had  been  a  typical  promoter's  scheme,  in  which 
the  promoters  had  secured  a  power  contract  from  the  Niagara,  Lock- 
port  and  Ontario  Power  Company,  and  had  sold  the  same  to  a  com- 
pany of  their  own  creation  for  $100,000.  In  December,  1905,  the 
promoters  had  apphed  to  the  Commission  of  Gas  and  Electricity  for  leave 
to  issue  $200,000  of  stock  and  $100,000  of  bonds  for  which  the  company 
was  to  actually  receive  in  value  in  the  neighborhood  of  $75,000  to  $80,000. 
The  application  was  denied,  but  the  promoters  were  not  discouraged. 
They  immediately  organized  a  holding  corporation  under  the  laws  of  the 
State  of  Maine,  called  the  Genesee  Niagara  Power  Company  the  trustees 
of  whose  bondholders'  association  had  bought  in  the  properties  under 
discussion.  As  a  result  of  various  contracts  and  agreements  subse- 
quently entered  into  between  the  Maine  holding  corporation  and  the 
New  York  Company,  the  latter  had  agreed  to  issue  stocks  and  bonds 
to  a  total  amount  of  $400,000;  and  it  had  further  agreed,  until  such  time 
as  it  could  issue  stock  and  bonds  to  that  amount,  that  it  would  pay  to  the 
Maine  corporation  the  sum  of  $20,000  annually,  that  is,  5  per  cent  upon 
$400,000,  in  return  for  an  assignment  of  a  power  contract  and  $92,000 
cash,  as  alleged. 

'  Matter  of  Appb'cation  of  the  Genesee  Light  and  Power  Company  for  Authority 
to  Issue  Capital  Stock,  2  P.S.C.R.,  2nd  Dist.,  N.  Y.  443.    Decided  May  17,  1910. 


CAPITAL  CONTROL  IN  NEW  YORK  181 

In  1908,  a  receiver  was  appointed.  The  company's  assets,  as  shown 
in  its  report  to  the  Commission  for  that  year,  totalled  $280,000,  approxi- 
mately. This  included  $100,000  paid  for  the  power  contract,  leaving 
$180,000  for  actual  assets.  There  seemed  to  have  been  no  increase  in 
assets  since  that  time,  although  in  the  petition  it  was  claimed  they  were 
worth  $567,700. 

The  question  was  whether  upon  reorganization  the  new  corporation 
could  issue  such  amount  of  stock  as  it  might  elect  and  whether  such 
amount  was  within  the  control  of  the  Commission.  The  position  of  the 
applicant  was  stated  to  the  following  effect: 

there  is  no  power  in  the  Commission  to  examine  into  this  reorganization  further  than 
to  see  that  the  plan  of  reorganization  is  lawful  and  that  the  trustees  under  the  plan  are 
properly  executing  their  trust.  That  when  this  is  ascertained  its  powers  are  not 
judicial  but  ministerial,  and  it  is  its  duty  to  approve  the  issue  of  stock  as  set  out  in  the 
agreement. 

This  was  the  identical  position  assumed  by  the  applicant  in  the  Third 
Avenue  case  and  which  the  Commissions  were  subsequently  forced  to 
assume  by  the  decision  of  the  Court  of  Appeals  in  that  case. 

The  Commission  contended  that  it  was  not  logical  to  assume  that  the 
Legislature  intended  that  a  reorganized  corporation  should  exclusively 
determine  the  amount  of  its  capitalization  while  in  the  case  of  all  other 
corporations  subject  to  the  supervision  of  the  Commissions  such  capi- 
talization must  be  authorized  by  the  Commissions;  that  it  did  seem  logi- 
cal that  corporations  which  found  it  necessary  to  reorganize  were  the 
very  ones  most  likely  to  be  suffering  from  over-capitahzation,  and  that, 
if  the  Public  Service  Commissions  were  to  realize  the  expectations  enter- 
tained for  them,  power  over  reorganizations  was  essential. 

As  to  the  amount  of  stock  which  the  applicant  should  be  authorized 
to  issue,  the  Commission  held  that  stock  should  be  issued  in  an  amount 
equal  to  the  fair  and  reasonable  value  of  the  property  and  no  more. 

Allowance  for  Value  of  Power  Contract  Based  Upon 
Reasonable  Profits  Upon  Capital  Invested 
With  regard  to  the  item  of  $100,000,  for  the  power  contract  with  the 
Niagara,  Lockport  and  Ontario  Power  Company,  proof  was  lacking  to 
show  that  it  was  worth  any  such  sum.  No  special  advantages  entered 
into  it.  Whatever  of  value  there  was  in  the  contract,  it  was  held,  de- 
pended entirely  upon  the  price  to  be  paid  for  the  power  and  the  price 
or  which  it  could  be  sold.  There  should  be  allowed,  and  the  applicant 
was  entitled  to  make,  such  difference  between  these  two  sums  as  would 


182  CAPITAL  CONTROL  IN  NEW  YORK 

pay  the  operating  expenses,  take  care  of  the  depreciation  of  its  plant, 
and  afiford  a  reasonable  return  upon  the  amount  invested  in  its  plant. 
Generally  speaking,  if  the  difference  between  the  buying  and  selling  price 
included  anything  more  than  this,  such  excess  was  unreasonable  and 
should  be  cut  off  from  the  selling  price,  and  therefore  the  contract  had 
no  value  which  was  dependent  upon  this  purpose.  Its  value,  it  appeared 
to  the  Commission,  rested  upon  the  reasonable  profits  which  might  be 
made  in  the  business  upon  the  money  actually  invested. 

No  Allowance  Permitted  for  Engineering  Expense 
Upon  Original  Construction 

The  various  important  items  alleged  to  have  been  purchased  at  the 
judicial  sale  were  discussed.  Many  of  the  intangibles  were  thrown  out, 
such,  for  instance,  as  an  item  of  $8,778  for  engineering  expenses  upon 
original  construction.  In  passing  upon  this  point,  the  Commission  held 
that  prior  to  the  original  construction,  estimates  had  been  made  as  to 
the  engineering  expenses  which  would  enter  into  the  construction,  and 
that  allowance  therefor  had  already  been  made  in  ordinary  cases  of 
capitalization.  This,  however,  was  not  such  a  case,  as  the  property 
had  already  been  constructed,  and  had  been  purchased  as  complete. 

Therefore,  any  estimate  of  its  value  must  necessarily  include  all  of  the 
elements  of  its  cost,  including  engineering  expense  as  much  as  expense 
for  copper  or  brick.  There  was  also  an  item  for  $20,000,  for  "marketing 
securities  of  Maine  corporation,"  and  another  item  for  alleged  value  of 
franchises.     Such  were,  of  course,  disallowed. 

Fair  Value  of  Property  Basis  Applied  Over 
Corporations  Protest 
The  Commission  concluded  that  a  corporation  organized  pursuant  to 
section  9  of  the  Stock  Corporation  Law,  if  it  belonged  to  one  of  the 
classes  named  in  the  Public  Service  Commissions  Law,  could,  with  the 
authorization  of  the  Commission,  issue  stock  and  bonds  for  the  acquisi- 
tion of  the  property  of  the  corporation  which  was  sold  upon  judicial  sale. 
The  basis  upon  which  such  securities  could  be  issued  was  stated  as  follows : 

that  such  stock  and  bonds  may  be  authorized  to  the  amount  of  the  fair  value  of  the 
property  sold  upon  such  judicial  sale,  and  that  such  property  must  be  either  tangibles 
or  such  intangibles  as  constitute  a  right  to  demand  and  receive  or  otherwise  enjoy 
the  possession  of  tangible  property. 

Capital  stock  was  finally  authorized  for  what  was  considered  the  fair 
value  of  the  property  to  be  taken  over.    Some  $166,000,  it  appeared,  had 


CAPITAL  CONTROL  IN  NEW  YORK  183 

actually  been  expended  from  all  sources,  including  expenditures  by  the 
receiver. 

The  Commission,  in  closing  its  discussion  of  the  matter,  refers  to  the 
issue  of  stock  in  direct  violation  of  the  order  of  the  Commission  of  Gas 
and  Electricity  denying  authority  for  such  a  purpose.  It  further  points 
out  that  the  existence  of  the  Maine  corporation  was  part  of  a  scheme 
to  defeat  the  New  York  State  Law;  that  the  agreement  to  pay  the  Maine 
corporation  $20,000,  annually,  was  simply  a  device  to  cheat  the  law; 
and  that  every  holder  of  the  Maine  securities  must  have  been  cognizant 
that  such  was  the  case.  In  this  connection,  the  Commission  observed 
that  "  these  facts,  if  properly  weighed,  might  lead  to  results  not  pleasant 
to  the  reorganized  corporation."  This  threat  and  the  knowledge  that 
it  was  well-founded  may  have  accounted  for  the  fact  that  the  decision  of 
the  Commission  was  not  appealed  to  the  Courts,  as  the  Third  Avenue 
decision  was,  although  the  power  of  the  Commissions  to  scale  down  pro- 
posed securities  to  the  value  of  the  property  was  just  as  hotly  contested 
as  in  the  latter  case. 

The  Third  Avenue  Case 

The  first  reorganization  plan  of  the  bondholders  of  the  Third  Avenue 
Railroad  Company  was  presented  in  July,  1909.'  It  was  contended  by 
the  applicant,  the  bondholders'  committee  of  the  old  company,  the  Third 
Avenue  Railroad  Company,  that  the  proposed  new  company,  the  Third 
Avenue  Railway  Company,  had  a  right  to  "reorganize  upon  the  basis 
of  the  old  securities,"  and  that  the  functions  of  the  Commission  were 
purely  ministerial. 

The  First  District  Commission  took  the  position  that  the  Legislature, 
in  constituting  the  Commission  an  administrative  body  and  giving  it 
power  to  approve  or  disapprove  the  issuance  of  securities,  did  not  contem- 
plate that  its  action  in  any  class  of  cases  should  be  simply  ministerial,  but 
intended  that  it  should  have  the  power  to  determine  the  details  of  the 
reorganization  scheme  and  the  amount  of  stock  and  bonds  which  should 
be  issued  in  order  to  carry  it  out. 

It  was  proposed  by  the  applicant  that  the  new  company  should  issue 
over  $68,000,000  of  new  securities,  making  an  increase  in  capitalization 
of  nearly  $15,000,000,  of  which  not  more  than  $6,500,000  would  go  to 
improve  the  tangible  property.  No  inventory,  even  partial,  and  no 
appraisal  or  even  estimate  as  to  the  actual  value  of  the  property  upon 

'Matter  of  Application  of  the  Bondholder's  Committee  of  the  Third  Avenue 
Railroad  Company,  2  P.S.C.R.,  1st  Dist.,  N.  Y.  94.  Opinion  adopted  September 
29,  1909. 


184  CAPITAL  CONTROL  IN  NEW  YORK 

which  such  securities  were  to  be  issued  was  submitted.  The  Commission 
felt  that  in  the  absence  of  any  such  data  it  was  "  wholly  unable  to  reach 
the  conclusion  that  a  company  unable  to  pay  fixed  charges  and  dividends 
upon  $58,560,000  of  securities  should  be  superseded  by  one  having 
$73,5 16,800  of  stocks  and  bonds.  "^  Many  of  the  notes  of  subsidiary  com- 
panies for  large  amounts,  held  as  assets,  were  worthless,  and  everything 
seemed  to  indicate  that  even  the  present  securities  were  far  from  repre- 
senting proper  expenditures  for  capital  purposes. 

Earning  Power  as  a  Basis  for  Security  Issues 
The  apphcant  company's  case,  from  a  financial  point  of  view,  seemed 
to  rest  upon  its  optimistic  estimate  of  the  net  income  of  the  system. 
The  receiver  claimed  that  the  net  earnings  of  the  lines  owned  or  operated 
would  not  be  less  than  $1,500,000,  after  paying  interest  on  over 
$9,000,000  of  underlying  bonds.  The  estimate  seemed  unwarranted, 
judging  by  the  data  available,  but  even  if  it  were  accepted,  no  allowance 
had  been  made  for  franchise  taxes  and  very  little  for  depreciation.  A 
reasonable  allowance  for  these  two  items  made  estimated  net  earnings 
seem  far  from  su&cient  to  meet  bond-interest. 

The  applicant  laid  great  stress  upon  the  increase  in  earnings  from  year 
to  year,  but  the  Commission  felt  that  such  estimates  were  too  imaginary 
and  uncertain,  and  that  it  would  be  inviting  disaster  and  a  repetition  of 
the  receivership  to  base  large  amounts  of  securities  upon  them. 

The  Commission  endeavored  to  show  how  the  proposed  plan  would 
work  out  upon  the  estimates  submitted  and  how  far  short  results  would 
come  of  justifying  such  issues.  The  receiver  estimated  the  probable 
net  income  of  the  reorganized  company  at  $1,200,000,  although  due 
allowance  for  franchise  taxes  and  depreciation  would  have  made  $900,000 
more  probable.  The  annual  interest  upon  the  proposed  refunding  bonds 
to  the  amount  of  $32,516,800,  would  be  $660,000,  leaving  $540,000,  with 
which  to  pay  interest  at  5  per  cent  upon  the  proposed  $32,000,000  of  ad- 
justment bonds,  and  any  dividends  upon  the  stock.  The  interest  on 
these  bonds  alone  would  call  for  $1,600,000.  The  holders  of  the  adjust- 
ment bonds,  under  the  proposed  plan,  were  to  have  no  rights  of  foreclosure. 
Upon  this  basis  the  return  to  these  bondholders  would  be  less  than  1.7 
per  cent  on  the  basis  of  the  receiver's  estimate,  and  less  than  .8  per  cent 
upon  the  corrected  estimate.    The  holders  of  the  common  stock  would 

*An  issue  of  $5,000,000  of  first  mortgage  bonds  was  to  remain.  This  made 
$68,500,000  of  new  securities  and  a  total  under  the  reorganization  plan,  of  $73,500,000. 


CAPITAL  CONTROL  IN  NEW  YORK  185 

get  nothing,  although  called  up>on  to  pay  an  assessment  of  $25  per  share 
upon  their  holdings. 

The  Commission  concluded  that  cumulative  five  per  cent  interest 
upon  the  $32,000,000,  of  adjustment  bonds  would  not  be  earned  for  a 
long  time;  that  no  dividend  upon  the  $20,000,000,  of  stock  would  be 
earned  for  a  much  longer  period,  and  that,  therefore,  there  was  no 
justification  for  authorizing  the  issue  of  such  securities. 

Proposed  Use  of  Bond  Proceeds  for  Purposes  Not 
Proper  Objects  of  Capitalization 

Of  the  proceeds  of  the  proposed  securities,  approximately  fifteen 
miUion  dollars,  face-value,  the  excess  over  the  amount  required  to  refund 
the  old  securities,  were  to  be  devoted  to  objects  most  of  which  would  not 
add  in  any  way  to  the  value  of  the  property  and  which,  ordinarily,  could 
not  be  regarded  as  proper  objects  of  capitalization.  Nearly  a  million 
dollars  was  to  be  used  to  take  up  outstanding  obhgations  of  subsidiary 
companies,  another  miUion  to  provide  extensions,  another  million  for 
renewal  of  tracks,  another  to  pay  franchise  taxes  overdue,  another  for 
reorganization  expenses,  a  miUion  and  a  half  for  subsidiary  companies, 
two  and  one  half  miUions  for  the  syndicate  for  services  in  disposing  of 
securities,  etc.,  three  miUions  to  pay  principal  and  interest  of  receivers' 
certificates,  and  three  millions  more  for  unpaid  interest  on  bonds. 

It  was  held  that  while,  under  the  circumstances,  it  might  be  proper 
to  issue  short-term  notes  for  such  expenses,  the  capitalization  by  long- 
term  bonds  or  common  stock  of  such  items  as  repairs,  renewals,  taxes, 
unpaid  interest,  reorganization  expenses,  and  the  Hke,  amounted  prac- 
tically to  the  capitalization  of  habihties  rather  than  assets  and  was 
extremely  objectionable  from  the  point  of  view  of  sound  finance. 

Interest  of  the  Public  Vital  as  to  Amount  of  Securities 
Issued  by  a  Reorganized  Company 

The  Commission  felt  that  it  should  bear  in  mind  the  fact  that  many 
people  beheve  that  its  approval  of  securities  is  a  certificate  of  character 
and  that  when  the  Commission  approves  an  issue  of  securities  it  is  good 
evidence  that  there  is  genuine  property  back  of  them,  and  that  a  reason- 
able probabihty  exists  that  interest  and  dividends  will  be  paid.  Cer- 
tainly, it  was  held,  the  pubhc  did  not  believe  that  the  Commission  would 
allow  securities  to  be  issued  which  were  represented  by  no  property  and 
upon  which  there  was  no  probabihty  of  a  return. 

The  receiver  of  the  company,  in  his  testimony,  took  the  position  that 
it  made  no  difference  to  the  investing  pubUc  or  to  the  general  public 


186  CAPITAL  CONTROL  IN  NEW  YORK 

how  many  stocks  or  bonds  were  issued  by  a  reorganized  company;  that 
the  main  function  of  the  Commission  was  to  enforce  adequate  faciUties 
and  accommodations  to  the  pubUc  to  be  served. 

The  Commission  held  that  the  enactment  of  the  PubHc  Service  Com- 
missions Law  served  notice  upon  all  who  held  such  views  that  the  public 
was  rightfully  interested  and  would  thereafter  have  a  say  in  the  issuance 
of  securities,  that  an  end  might  be  made  to  the  unsavory  practices  of  the 
past. 

The  attitude  suggested  by  the  applicant  might  be  logical  as  far  as 
stock  was  concerned,  if  the  stock  remained  in  the  hands  of  the  first  parties. 
But  to  maintain  that  an  excessive  amount  of  ordinary  bonds,  that  is, 
bonds  with  rights  of  foreclosure,  can  make  no  difference  to  the  public, 
is  preposterous,  and  such  a  statement  would  seem  to  reflect  either  upon 
a  man's  intelligence  or  his  sincerity.  Such  a  condition  would  result  in 
constantly  recurring  receiverships,  or,  at  least,  in  neglect  of  depreciation 
and  skimping  of  service,  in  an  effort  to  keep  out  of  receivers'  hands. 

On  the  other  hand,  the  issue  of  bonds  without  foreclosure  rights, 
such  as  the  income  bonds,  which  formed  a  large  part  of  the  proposed 
issue  in  this  case,  amounts  practically  to  selling  preferred  stock  to  the 
public  under  the  name  of  bonds.  Bonds  without  foreclosure  rights  would 
hardly  seem  to  be  bonds  at  all.  The  public  may  buy  them  for  a  while 
under  a  misconception  and  be  deceived  thereby,  but  a  reahzation  of  the 
true  nature  of  such  securities  would  soon  place  them  in  the  same  category 
and  subject  to  the  same  valuation  as  stock,  the  only  difference  being 
that  they  would  have  a  preferred  claim  as  to  assets,  but  with  a  limitation 
as  to  return.* 

Furnishing  of  Adequate  Facilities  by  a  Public  Utility 
Dependant  Upon  Proper  Capitalization 

The  receiver  for  the  Third  Avenue  Railway  company  had  contended 
(as  mentioned  above),  that,  since  the  state  had  created  a  body  with 
power  to  compel  the  furnishing  of  adequate  facilities  to  the  public,  the 
amount  and  character  of  securities  were  matters  with  which  the  pubhc 
had  no  concern. 

It  is,  perhaps,  true  that  an  important  factor  in  bringing  about  the 
passage  of  the  Pubhc  Service  Commissions  Law  in  New  York  State  in 
1907,  as  far  as  New  York  City,  at  least,  was  concerned,  was  the  lack  of 
adequate  facilities  in  the  way  of  transportation  and  the  desperation  of  the 

*  In  fact,  it  was  admitted  at  the  hearings  that  the  term  "bonds"  was  used  instead 
of  "stock"  in  order  to  enable  insurance  companies  to  hold  them  under  the  law. 


CAPITAL  CONTROL  IN  NEW  YORK  187 

consuming  public  in  their  continued  failure  to  make  the  companies 
respond.  But  the  underlying  cause,  the  real  reason  for  this  state  of 
things,  was  the  unbridled  over-capitalization  of  the  large  street  railway 
companies.  This  caused  them  to  neglect  maintenance  in  order  to  meet 
fixed  charges  upon  watered  securities.  In  other  words,  the  lack  of  service 
was  a  symptom  of  a  disease,  the  real  disease  being  over-capitalization. 
It  is  true  that  the  Commissions  are  vested  with  power  to  compel 
the  companies  to  furnish  adequate  facilities,  but  to  try  to  force  the  com- 
panies to  furnish  adequate  service  without  attempting  to  remove  the 
cause  which  renders  them  unable  to  furnish  it  is  hke  attempting  to  cure 
a  disease  by  suppressing  the  symptoms.  The  disease  would  remain, 
and  symptoms  would  break  out  in  another  place,  that  is,  the  companies 
would  be  thrown  into  the  hands  of  a  receiver.  The  Legislature  can  place 
a  law  upon  the  statute  books,  but  it  cannot  make  water  run  uphill. 

If  the  income  of  a  public  utiHty  company  is  inadequate  to  meet  both 
bond-interest  and  expenses  of  maintenance,  one  of  two  things  must  hap- 
pen, and  all  the  power  of  a  Commission  cannot  alter  the  result:  either, 
the  company  must  skimp  the  service,  or  it  must  go  into  bankruptcy, 
provided,  of  course,  that  it  is  not  allowed  to  increase  its  revenue  from 
the  public. 

The  Commission  felt  the  absurdity  of  attacking  the  symptom  and 
not  the  disease.  If  the  cause  were  removed  the  effect  could  easily  be 
remedied,  and  the  Commission  did  not  propose  to  be  put  in  the  futile 
position  of  trying  to  contravene  economic  laws.  It  drew  the  following 
conclusions : 

(1)  Over-capitalization  almost  invariably  tempts  managers  to  give  inferior 
service  at  higher  rates,  which  vitally  affects  the  travelUng  public; 

(2)  No  matter  how  excessive  the  issues  of  stock  and  bonds,  the  manager  feels 
that  he  is  expected  to  earn  interest  and  dividends  thereon,  and  inasmuch  as  every 
time  he  is  able  to  increase  the  rate  of  profit  by  a  fraction  of  one  per  cent  he  adds  to 
his  reputation,  he  is  naturally  very  strongly  tempted  to  try  to  squeeze  an  extra  one 
per  cent  out  of  the  service  or  the  fares; 

(3)  If  the  capitaUzation  were  smaller,  it  would  be  easier  to  earn  interest  and 
dividends  without  robbing  the  service  j  and 

(4)  That  the  Commission  is  of  the  opinion  that  the  approval  of  the  present  appli- 
cation would  strongly  tend  to  produce  inferior  service  and  higher  fares  or  fewer  transfer 
privileges. 

The  apphcation  was  denied  upon  the  ground  that  the  facts  presented 
did  not  warrant  the  conclusion  that  the  capital  was  reasonably  required. 
The  Commission  emphasized  the  fact  that  the  apphcants  had  failed  to 
prove  that  there  were  assets  or  property  of  sufficient  value  to  justify  a 


188  CAPITAL  CONTROL  IN  NEW  YORK 

capitalization  of  $73,000,000  (exact  amount  $73,516,800),  and  further 
pointed  out  that  there  were  strong  indications  that  the  old  company  was 
over-capitalized  and  that  the  outstanding  stock  and  bonds — $58,560,000 
— were  not  represented  by  actual  property. 

Third  Avenue  Case — Second  Plan 

Several  months  later  a  second  reorganization  plan  was  presented.^ 
This  too,  while  much  more  moderate  than  the  former,  was  denied 
because  the  amount  of  capitalization  still  far  exceeded  the  value  of 
the  property. 

This  plan  involved  a  total  capitalization  less  by  $15,600,000,  than 
the  former.  Twenty-five  per  cent  of  the  old  consoUdated  bonds  were  to 
to  be  paid  off  by  means  of  common  stock.  Stockholders  who  paid  the 
assessment  of  $45,  increased  from  $25,  were  to  receive  40  per  cent  upon 
their  old  stock  in  first  refunding  bonds,  plus  $45  in  new  stock. 

The  Commission  made  an  even  more  thorough  investigation  of  the 
affairs  of  the  appHcant,  but  came  to  the  conclusion  that  the  value  of  the 
property  was  far  below  even  the  amount  of  capitahzation  proposed  in 
the  new  plan  and  that  there  was  little  probability  that  the  interest  on  the 
bonds  could  be  met  fully  for  some  time.  Bonds  should  not  be  issued, 
the  Commission  again  insisted,  in  excess  of  an  amount  upon  which  interest 
could  be  assured.  The  Commission  arrived  at  a  valuation  of  $31,600,000 
as  compared  with  $59,916,000  the  capitahzation  asked  for. 

Court  Decisions  Upon  the  Ruling  of  the  Commission  in  the 
Third  Avenue  Case 

The  case  was  carried  to  the  courts  on  a  writ  of  certiorari,  and  the 
Appellate  Division  of  the  Supreme  Court  for  the  First  Department  re- 
versed'^ and  set  aside  the  determination  of  the  Commission,  and  directed 
it  to  approve  the  reorganization  plan  submitted  by  the  bondholder's 
committee. 

The  Commission  had  held  that  the  reorganization  statute  had  been 
repealed  by  the  Public  Service  Commissions  Law,  not  directly,  but  im- 
pliedly. The  Court  took  the  position  that  repeals  by  implication  were 
not  favored  by  the  courts,  and  that  an  existing  specific  law  could  not  be 
repealed  by  impHcation  by  a  subsequent  general  law;  and  that  unless 

« Matter  of  the  Application  of  the  Bondholder's  Committee  of  the  Third  Avenue 
Railroad  Company,  for  Approval  of  the  Issue  of  Bonds  and  Stock,  2  P.S.C.R.,  1st 
Dist.,  N.  Y.  347.     Opinion  adopted  July  29,  1910. 

^  People  ex  rel.  Third  Avenue  Railway  Company  v.  Public  Service  Commission, 
145  App.  Div.  (N.  Y.)  318.    Decided  June  9,  1911. 


CAPITAL  CONTROL  IN  NEW  YORK  189 

the  provisions  of  the  two  acts  were  so  inconsistent  that  they  could  not 
exist  side  by  side,  a  repeal  of  the  earUer  one  by  the  later  should  not  be 
declared. 

The  Commission  appealed  to  the  Court  of  Appeals,  which  on  Novem- 
ber 21,  1911,  affirmed  the  decision  of  the  Appellate  Division  and  directed 
that  the  Commission  proceed  in  pursuance  of  the  instructions  of  that 
court.'  The  Court  of  Appeals  held,  like  the  Appellate  Division  of  the 
Supreme  Court,  that  the  two  statutes  were  not  inconsistent;  that  the 
PubUc  Service  Commissions  Law  did  not  repeal  the  provisions  of  the 
Stock  Corporation  Law  for  reorganization  purposes,  and  that,  on  the 
other  hand,  the  latter  law  did  not  exempt  companies  in  process  of  reor- 
ganization from  comphance  with  Section  55'  of  the  PubUc  Service  Com- 
missions Law;  that  the  two  statutes  must  be  construed  together. 

It  was  held  that  the  Commission  had  not  been  justified  in  refusing 
the  appHcation  of  the  bondholder's  committee  because  the  value  of  the 
property  was  less  than  the  amount  of  securities  to  be  issued  by  the  new 
corporation,  inasmuch  as  the  Public  Service  Commissions  Law  contained 
no  provision  that  securities  issued  should  in  no  instance  exceed  the  value 
of  the  property. 

The  Court  of  Appeals,  while  agreeing  that  as  a  general  rule,  under  the 
requirements  of  the  Public  Service  Commissions  Law,  securities  should 
not  be  authorized  except  where  the  value  of  the  property  is  equal  to  the 
amount  of  the  securities  issued,  yet  held  that  "there  may  be  exceptions 
to  that  rule. "  It  was  pointed  out  that  the  provision  of  the  PubUc  Service 
Commissions  Law  relating  to  consoUdation  or  merger,  provides  that 
the  capital  stock  of  the  corporation  formed  by  the  merger  shall  not  exceed 
the  capital  stock  of  the  corporations  consohdated,  and  any  additional 
sum  paid  in  cash.  In  this  case,  therefore,  the  Court  held,  the  issue  of 
stock  was  not  limited  to  nor  dependent  upon  the  value  of  the  property 
involved.  It  was  held  by  the  Courts  of  Appeals  that  "a  readjustment  of 
the  interests  of  the  parties  (to  the  reorganization)  does  not  contemplate 
that  the  new  securities  shall  necessarily  be  scaled  down  to  the  actual  value 
of  the  property. " 

•  People  ex  rel.  Third  Avenue  Railway  Company  et  al.  v.  Public  Service  Commis- 
sion, 203  N.  Y.  299.     Decided  November  21,  1911. 

•  Section  55  gave  the  Commissions  p>ower  of  approval  of  issues  of  stock,  bonds, 
and  other  forms  of  indebtedness  in  connection  with  common  carriers,  railroad  corpora- 
tions, or  street  railroad  corporations,  but  made  no  specific  mention  of  any  course  to  be 
pursued  in  reorganii-ation  cases.  The  same  was,  of  course,  true  of  the  corresponding 
sections  dealing  with  gas  and  electric  corporations,  and  telegraph  and  telephone  cor- 
porations, these  being  the  only  classes  of  utilities  included  within  the  scope  of  the  law 
at  the  time  of  this  decision. 


CHAPTER  XVI 

Reorganization  Under  the  Public  Service  Commissions 
Law — Second  Period 

This  decision  of  the  New  York  Court  of  Appeals  opened  what  we 
have  styled  the  second  period  in  reorganization  cases,  and  established 
that  while  the  Public  Service  Commissions  Law  should  remain  in  its 
original  form  with  regard  to  reorganizations  the  Commissions  did  not 
have  power  to  base  the  amount  of  proposed  securities  of  reorganized 
companies  upon  the  value  of  the  property. 

The  bondholder's  committee  of  the  defunct  Third  Avenue  Railroad 
Company,  and  the  representatives  of  the  new  Third  Avenue  Railway 
Company  immediately  apphed  for  approvaP  of  their  "  second  reorganiza- 
tion plan, "  in  accordance  with  the  mandate  of  the  Court  of  Appeals  to 
the  Commission. 

The  decision,  under  the  existing  condition  of  the  New  York  statutes, 
restricted  the  powers  of  the  Commissions  to  three  functions  in  such  cases. 
These  were  to  determine:  (1)  Whether  the  proposed  stocks  and  bonds 
were  to  be  issued  under  and  in  conformity  with  the  provisions  of  the 
Stock  Corporation  Law,  sections  9  and  10;  (2)  whether  the  new  corpora- 
tion had  been  duly  vested  with  the  title  to  the  property  and  franchises  of 
the  old  corporation ;  and  (3)  whether  the  plan  of  reorganization  was  being 
carried  out. 

The  Commission,  as  a  result  of  its  extended  investigations,  had  found 
that  the  proposed  capitalization  was  far  in  excess  of  the  value  of  the 
property,  and  that  the  most  optimistic  estimates  of  the  net  income  of  the 
property  indicated  that  interest  and  dividends  could  not  be  earned  upon 
the  proposed  securities.  Yet,  inasmuch  as  the  court  decisions  referred 
to  above  took  no  cognizance  of  these  matters  and  allowed  the  Commis- 
sion no  discretion  in  them  it  was  finally  compelled  to  grant  approval  of 
the  plan  submitted.  A  few  months  later  the  Commission  authorized  the 
execution  and  dehvery  of  the  two  corporate  mortgages  called  for  by  the 
reorganization  plan,  and  about  the  same  time  an  order  making  certain 
requirements  as  to  the  amortization  and  depreciation  accounts  of  the  new 
Third   Avenue   Railway   Company.^ 

*  Matter  of  Application  of  the  Bondholder's  Committee  of  the  Third  Avenue  Rail- 
road Company  for  approval  of  the  issue  of  bonds  and  stock,  3  P.S.C.R.,  1st  Dist., 
N.  Y.,  21.    Opinion  adopted  January  17, 1912. 

^  Matter  of  Application  of  the  Bondholder's  Committee  of  the  Third  Avenue 
Railroad  Company,  etc.,  3  P.S.C.R.,  1st  Dist.,  N.  Y.,  51.  Opinion  adopted  Feburary 
3,  1912. 


CAPITAL  CONTROL  IN  NEW  YORK  191 

Requirements  for  Amortization  and  Upkeep 
Stipulated  by  Commission 
The  First  District  Commission  at  that  time  held  that  it  had  the  power 
to  require  the  amortization  of  the  difference  between  the  fair  value  of  the 
corporate  property  and  the  par  value  of  the  securities  to  be  issued.  This 
was  to  be  accomplished  by  the  appropriation  and  reservation  each  year, 
out  of  annual  income,  or  out  of  surplus  accumulated  after  the  issue  of  the 
bonds,  of  an  amount  not  less  than  the  proportionate  amount  of  such  dif- 
ference. Thus,  upon  the  date  of  maturity  the  company,  in  refunding 
the  bonds  then  due,  would  have,  as  the  basis  of  such  refunding,  property 
to  an  amount  equal  to  the  par  value  of  the  securities  to  be  refunded. 
The  Commission  was  now,  in  obedience  to  the  interpretation  of  the 
Court  of  Appeals,  placed  in  the  position  of  approving  securities  far  in. 
excess  of  the  value  of  the  property.  Even  if  the  property  was  main- 
tained in  thorough  repair,  and  adequate  amounts  for  depreciation  were 
set  aside,  the  securities,  when  matured,  would  still  represent  the  same 
excess  over  value.  This  excess  was  estimated  at  about  $26,000,000,  and 
it  was  planned  to  build  up  an  amortization  fund  just  as  in  the  case  of 
discount  on  bonds,  and  such  a  provision  was  placed  in  the  order,  but  was 
afterward  withdrawn.  The  same  requirement  was  later  made  in  the 
Metropolitan  case,  and  was  hkewise  withdrawn.  This  was  because  the 
Commission  came  to  doubt  its  power  to  enforce  such  a  provision  in  the 
light  of  the  Third  Avenue  decision.'  Such  amortization  of  the  excess 
capitalization  would,  in  effect,  be  another  way  of  regulating  the  amount 
of  the  securities  at  the  time  they  were  issued,  which  power  the  court 
decided  the  Commission  did  not  have  under  the  law  as  it  then  stood. 
It  would  be  accompKshing  indirectly  what  the  court  had  said  the  Com- 
mission did  not  have  power  to  do  directly.  It  was  estimated  that  the 
$55,000,000,  approximately,  of  new  securities  would  net  only  about 
$33,000,000,  the  refunding  bonds  being  figured  at  80,  the  adjustment 
bonds  at  70,  and  the  stock  at  30.  This  made  about  $25,000,000  to  be 
amortized  as  bond  discount.  This,  of  course,  was  amply  provided  for 
in  the  uniform  system  of  accounts  prescribed  by  the  Commission,  and  the 
amortization  of  this  discount  would  be  necessary  merely  to  refund  the 
bonds.  The  actual  value  of  the  property,  however,  would  not  be  in- 
creased any  thereby  even  if  the  property  itself  was  adequately  main- 
tained. 

'  Matter  of  the  Order  made  by  the  Commission  on  February  3,  1912,  relative 
to  the  Plan  of  Reorganization  of  the  Third  Avenue  Railroad  Company,  3  P.S.C.R,^ 
1st  Dist.,  N.  Y.,  453.    Opinion  adopted  December  10, 1912. 


192  CAPITAL  CONTROL  IN  NEW  YORK 

In  addition,  it  was  held  to  be  necessary,  in  order  to  guard  against  a 
repetition  of  the  present  financial  collapse,  for  the  applicant  company  to 
reserve,  for  current  maintenance  and  future  replacements  to  the  pro- 
perty, at  least  20  per  cent  of  the  operating  revenue  of  the  company. 
This  rate  was  held  to  be  neither  a  maximum  nor  a  minimum,  but  to  be 
subject  to  modification  upon  proof  presented  to  the  Commission. 

The  Order  of  February  3,  1912,  accordingly,  provided  that,  before 
paying  interest  on  its  bonds  or  dividends  on  its  stock,  the  applicant 
should  set  aside  for  maintenance,  depreciation  and  renewals,  during  each 
of  forty-eight  years  from  January  1,  1912,  a  sum  equal  to  twenty  per  cent 
of  its  gross  operating  revenue  for  that  particular  year.  If  this  amount 
was  not  expended  for  the  purposes  mentioned  during  any  one  year,  then, 
at  the  end  of  such  year,  the  unexpended  portion  thereof  should  be 
credited  to  a  separate  depreciation  fund.  It  was  further  provided  that 
the  whole  or  any  part  of  the  amount  accumulated  in  such  fund  might  be 
used  from  time  to  time  for  maintenance,  repairs,  replacements  and 
renewals,  in  addition  to  the  annual  expenditures  for  such  purposes  as 
required  in  the  mortgages. 

It  is  a  difficult  matter  to  distinguish  sharply  between  maintenance 
and  renewals.  The  replacing  of  a  worn-out  brake-shoe  is  maintenance, 
while  the  replacing  of  a  worn-out  rail  is  a  renewal.  Between  these  two 
are  many  gradations  and  it  was  the  idea  of  doing  away  with  the  necessity 
of  such  endless  distinctions  that  led  the  Commission  to  provide  for  both 
by  a  common  fund. 

Subsequent  Disregard  of  Upkeep  Provision  by 
Third  Avenue  Railway  Company 
The  Third  Avenue  Railway  Company  has  not  seen  fit  to  set  aside 
twenty  per  cent  of  gross  earnings  as  outlined  above.  This  was  brought 
out  in  the  hearings  upon  the  company's  application  for  permission  to 
increase  fares,  which  were  held  by  the  First  District  Commission  in 
June,  1917.  For  the  year  1916,  the  company's  gross  earnings  were 
$4,065,484,  of  which  20  per  cent  would  be  $813,097.  To  maintenance  of 
way  and  structures  there  was  charged  $318,277,  and  to  maintenance  of 
equipment  $162,368,  making  a  total  of  $480,645.  This  would  leave 
$332,452,  to  be  credited  to  a  separate  depreciation  fund.  There  was 
actually  set  aside  approximately  $114,000,  leaving  the  sum  of  $218,000 
which  should  have  been  set  aside.  Whether  the  Commission  actually 
had  power  to  force  the  Third  Avenue  Company  to  set  aside  the  amount 
stipulated  in  the  order  has  been  an  uncertain  question.  The  decision 
handed  down  in  January,  1918,  with  regard  to  the  similar  provision 
imposed  by  the  First  District  Commission  upon  the  New  York  Railways 
Company,  supported  the  power  of -the  Commissions  to  make  such  an 


CAPITAL  CONTROL  IN  NEW  YORK  193 

order.  A  subsequent  decision  in  the  same  case,  May  1918,  by  the  New 
York  Court  of  Appeals  has  made  it  plain  that  the  Commissions  do  not 
have  such  power. 

At  about  the  same  time,  February,  1912,  a  bondholder's  committee 
of  the  bankrupt  Metropolitan  Street  Railway  Company,  of  which  the 
Third  Avenue  Railroad  Company  had  previously  been  a  subsidiary, 
submitteid*  a  plan  of  reorganization  and  petitioned  for  approval  for  the 
execution  and  delivery  of  mortgages  and  the  issuance  of  securities  in 
pursuance  thereof. 

The  new  company  to  be  organized  was  to  be  known  as  the  New  York 
Railways  Company.  Investigation  showed  that  the  proposed  capitaliza- 
tion of  the  new  company  exceeded  the  fair  value  of  the  property  by  at 
least  $16,500,000.  The  plan  was  not  approved  by  the  Commission,  but 
was  carried  through  regardless  of  its  finding  that  the  proposed  capitaliza- 
tion far  exceeded  the  value  of  the  property,  and  that  the  estimates  of 
earnings  submitted  showed  that  the  company  would  not  receive  a  suf- 
ficient amount  to  pay  operating  charges,  interest  on  the  first  mortgage 
bonds,  and  five  per  cent  upon  the  income-bonds.  In  view,  however,  of 
the  action  of  the  Court  of  Appeals  in  overruling  its  decision  in  the  Third 
Avenue  case,  the  Commission  felt  constrained  to  give  its  consent  to  the 
plan. 

In  carrying  out  this  plan  of  reorganization  the  Commission  finally 
made  three  orders:  (1)  On  January  24,  1912,  authorizing  the  issue  of 
stocks  and  bonds;  (2)  On  February  27,  1912,  consenting  to  the  execution 
of  the  mortgages;  (3)  On  February  27,  1912,  requiring  among  other 
things  that  the  Company  reserve  20  per  cent  of  its  gross  operating 
revenues  month  by  month  to  provide  for  maintenance  and  depreciation 
of  its  properties  during  the  month.  The  last  order  as  to  the  provision 
mentioned  was  confirmed  on  rehearing  by  the  Commission.  To  review 
this  last  order,  which  was  practically  identical  with  the  requirement 
made  in  connection  with  the  Third  Avenue  Railway  Company,  and  which 
has  just  been  discussed,  the  New  York  Railways  Company  sued  out  a 
writ  of  certiorari,  which  was  argued  at  the  Appellate  Division  of  the 
Supreme  Court  for  the  First  Department,  on  December  12,  1917,  and 
upon  which  the  Court  handed  down  a  decision  on  January  18,  1918.^ 

*  Matter  of  the  Plan  for  Reorganization  of  the  Metropolitan  Street  Railway  Com- 
pany and  the  proposed  issue  of  securities  in  accordance  therewith,  3  P.S.C.R.,  1st 
Dist.,  N.  Y.,  113.     Opinion  adopted  February  27, 1912. 

^  People  ex  rel.  New  York  Railways  Company  v.  Public  Service  Commission,  181 
App.  Div.  N.  Y.,  338.    Decided  January  18, 1918. 


194  CAPITAL  CONTROL  IN  NEW  YORK 

This  decision  sustained  the  action  of  the  Commission  in  thus  requiring 
the  New  York  Railways  Company  to  set  aside  monthly  20  per  cent  of  its 
gross  operating  revenue  into  a  fund  for  maintenance  and  depreciation, 
upon  the  ground  that  the  facts  showed  that  since  the  making  of  the  ori- 
ginal order,  during  which  time  the  company  had  set  aside  the  20  per  cent 
as  required,  16%  per  cent  had  been  necessary  to  provide  for  maintenance, 
leaving  3}/^  per  cent  to  be  accumulated  into  a  depreciation  fund;  that, 
therefore,  the  20  per  cent  was  a  reasonable  amoimt  for  the  purposes 
specified.  Further  it  was  held  that  depreciation  reserves  were  properly 
'operating  expenses,'  and  that  the  accumulation  of  such  a  fund  was  ab- 
solutely necessary  to  meet  future  replacements  due  to  depreciation  and 
obsolescence,  as  the  Commission  had  no  authority  to  permit  the  issuance 
of  securities  to  meet  such  needs.  Hence,  the  lack  of  such  a  fund  would 
precipitate  another  reorganization  with  its  attendant  impairment  of 
securities  and  of  service  to  the  travelling  pubHc.  Therefore,  if  the  Com- 
mission lacked  the  power  to  compel  the  setting  aside  of  adequate  depre- 
ciation funds  it  would  subsequently  find  itself  in  the  position  of  being 
powerless  to  carry  out  its  two  main  functions,  the  providing  of  protection 
for  the  travelling  and  investing  public.  Such  a  conclusion,  the  Court 
held,  was  untenable,  both  in  view  of  the  settled  rules  of  statutory  inter- 
pretation giving  'imphed'  powers  to  make  effective  powers  exphcitly 
given,  and  in  view  of  the  enabling  clause  contained  in  section  4  of  the 
Public  Service  Commissions  Law, 

The  New  York  Railways  Company  immediately  carried  its  case  to  the 
New  York  Court  of  Appeals,  and  about  four  months  later,  May  1918,  the 
latter  handed  down  a  decision  which  reversed  the  Court  at  the  Appellate 
Division,  and  fixed  definitely  the  status  of  the  Commissions  as  regards 
their  power  to  compel  the  setting  aside  of  funds  for  depreciation.^  It 
was  stated  to  be  the  opinion  of  the  court  "  that  the  assertion  of  authority 
under  review  here  is  outside  of  and  beyond  the  statute."  The  Court 
stated  that  where  power  was  claimed  under  the  Public  Service  Com- 
missions Law,  it  "  should  have  its  basis  in  the  language  of  the  statute,  or 
should  be  necessarily  implied  therefrom. " 

This  decision  was  based  upon  a  'strict'  construction,  as  compared  with 
the  Uberal  construction  of  'imphed  powers'  of  the  Court  at  the  Appellate 
Division,  in  connection  with  the  same  case. 

Apparently,  the  directors  of  the  New  York  Railways  Company  will 
now  be  at  liberty  to  deplete  the  depreciation  fund  of  the  company  to  pay 

'  People  ex  rel.  New  York  Railways  Company  et  al  v.  Public  Service  Commission, 
223  N.  Y.,  373.    Decided  May  14, 1918. 


CAPITAL  CONTROL  IN  NEW  YORK  195 

interest  upon  the  large  amount  of  income  bonds  which  are  outstanding. 
This  would,  of  course,  apply  equally  to  the  Third  Avenue  Railway  Com- 
pany.'^ 

The  accrued  amortization  fund,  as  of  June  30, 1917,  above  the  amount 
actually  used  for  depreciation  amounted  to  $3,127,250,  which  is  equal 
to  about  10.20  per  cent  on  $30,626,977  adjustment  bonds  outstanding. 

While  the  interest  on  the  income  bonds  is  non-cumulative,  bondholders 
and  their  attorneys  hold  that  they  are  entitled  to  a  distribution  of  this 
fund  under  the  court's  decision. 

The  New  York  Railways  Company  has  not  paid  interest  on  its  ad- 
justment income  bonds  since  the  period  of  the  first  six  months  of  1916. 

The  Third  Avenue  Railway  Company  has  accumulated  a  reserve 
fund,  which,  as  of  June  30,  1917,  stood  at  $11,385,776.  In  addition  to 
this  amount,  the  directors  subsequently  set  aside  $494,386,  special  reserve 
out  of  earnings  for  the  six  months  ending  December  31, 1917. 

Interest  on  Third  Avenue  adjustment  income  mortgage  5s  is  cumula- 
tive and  there  is  now  3^  per  cent  back  interest  due,  (May  1918).  These 
bonds  are  secured  by  a  mortgage  which  is  subject  to  prior  liens.  A 
recent  appraisal  of  the  property  claimed  to  show  that  it  had  a  value  con- 
siderably in  excess  of  all  outstandiag  bonds. 

During  this  second  period  an  important  reorganization  case  came  up 
in  the  Second  District,  that  of  the  Adirondack  Power  Company. ^    The 

"*  In  connection  with  this  decision,  it  is  interesting  to  recall  comment  made  by 
the  company  (The  New  York  Railways  Company)  on  the  subject  in  its  report  for  the 
six  months  ending  Jmie  30, 1912,  which  reads  as  follows 

'  The  PubUc  Service  Commission  has  issued  an  order  whereby  the  company  is  re- 
quired to  set  aside  annually  an  amortization  fund  of  $108,000,  for  the  purpose  of 
making  up  what  the  commission  alleges  to  be  the  difference  between  the  value  of  pro- 
perty and  the  total  capitalization  of  this  company. 

"On  the  other  hand,  an  appraisal  of  cost  of  reproduction  of  the  property  new  as  of 
October  1,  1910,  made  by  the  receivers  of  the  Metropolitan  Street  Railway  Company 
system,  showed  that  the  reproduction  cost  was  $20,000,000  in  excess  of  the  entire 
capitalization  of  the  New  York  Railways  Company,  including  its  imderlying  bonds. 

"It  is  the  opinion  of  counsel,  therefore,  that  this  order  is  illegal,  but  as  the  company 
covenants  imder  its  mortgage  to  comply  with  all  orders  of  pubhc  authorities,  it  has 
been  foimd  necessary  to  reserve  from  net  income  a  six  months  proportion  of  this  charge, 
which,  of  course,  will  be  available  for  distribution  to  the  income  bondholders,  should 
the  order  be  rescinded.  An  order,  likewise  thought  to  be  illegal,  has  been  made  by  the 
commission,  requiring  the  company  to  set  aside  for  depreciation  a  fixed  sum  equal  to  20 
per  cent  of  the  gross  operating  revenue. 

"The  legality  of  both  these  orders  is  now  being  contested  in  the  courts." 

*  Matter  of  Application  of  Adirondack  Electric  Power  Corporation  to  issue  capital 
3  P.S.C.R.,  2nd  Dist.,  N.  Y.,  242.    Decided  February  19, 1912. 


196  CAPITAL  CONTROL  IN  NEW  YORK 

applicant  company  filed  a  petition  pursuant  to  section  69  of  the  Public 
Service  Commissions  Law,  for  authorization  to  issue  $12,000,000  of  capi- 
tal stock,  $2,500,000  preferred,  and  $9,500,000  common,  and  $5,000,000, 
fifty-year  5  per  cent  bonds. 

The  company  had  been  incorporated  in  December,  1911,  pursuant 
to  the  provisions  of  Section  9  of  the  Stock  Corporation  Law,  as  a  reor- 
ganization of  seven  domestic  corporations  of  the  State  of  New  York, 
namely,  the  Hudson  River  Water  Power  Company,  Hudson  River  Power 
Transmission  Company,  Saratoga  Gas,  Electric  Light  and  Power  Com- 
pany, Hudson  River  Electric  Company,  Hudson  River  Electric  Power 
Company,  Madison  County  Gas  and  Electric  Company,  and  the  Empire 
State  Power  Company. 

The  Court  of  Appeals  in  the  Third  Avenue  case  had  held  that  a  re- 
organized company  could  issue  securities  up  to  the  limit  of  the  securities 
of  the  old  company  or  companies,  plus  any  new  money  put  into  the  enter- 
prise. As  the  amount  of  securities  applied  for  was  not  in  excess  of  this 
stipulation,  the  Second  District  Commission  felt  constrained  to  approve 
the  plan,  and  stated  its  position  as  follows: 

We  know  of  no  other  question  in  the  case  upon  which  we  are  at  liberty  to  pass* 
We  have  not  found  ourselves  able  to  inquire  into  the  value  of  the  properties  involved 
by  reason  of  the  decision  in  the  Third  Avenue  case.  No  evidence  has  been  submitted 
to  us  concerning  the  value  of  such  properties.  We  are  entirely  unable  to  say  what 
such  value  is,  and  it  is  but  just  to  the  Commission  that  it  should  be  of  record  that  it 
makes  the  decision  in  this  case,  authorizing  the  capitalization  proposed  by  the  plan 
of  reorganization,  without  reference  to  the  value  of  the  properties  to  be  taken  over*  by  the 
new  corporation,  solely  because  the  law  as  interpreted  by  the  Court  of  Appeals  com- 
pels us  to  make  such  decision. 

» Italics  not  in  original. 


CHAPTER  XVII 

Reorganization  Under  the  Public  Service  Commission 
Third  Period 

For  the  purpose  of  remedying  the  defect  in  the  powers  which  the 
Public  Service  Commissions  Law  gave  to  the  Commissions  with  regard 
to  corporations  in  process  of  reorganization,  which  defect  the  Court  of 
Appeals  had  pointed  out  in  the  Third  Avenue  decision,  just  discussed, 
there  was  prepared,  in  1912,  an  amendment  to  the  Law,  which  gave  to 
the  Commissions  specific  powers  to  base  the  amount  of  securities  which 
they  could  permit  such  a  corporation  to  issue  upon  the  value  of  the 
property  involved. 

This  amendment.  Chapter  289  of  the  Laws  of  1912,  became  a  law 
April  12,  1912,  and  was  incorporated  into  the  Public  Service  Commis- 
sions Law  as  section  55-a.^    It  reads  as  follows : 

Sec.  55-a.  Reorganizations.  1.  Reorganizations  of  railroad  corporations, 
street  railroad  corporations  and  common  carriers  pursuant  to  sections  nine  and  ten 
of  the  stock  corporation  law  and  such  other  laws  as  may  be  enacted  from  time  to  time 
shall  be  subject  to  the  supervision  and  control  of  the  proper  commission  and  no  such 
reorganization  shall  be  had  without  the  authorization  of  such  commission. 

2.  Upon  all  such  reorganizations  the  amovmt  of  capitalization,  including  therein 
all  stocks  and  bonds  and  other  evidence  of  indebtedness,  shall  be  such  as  is  authorized 
by  the  commission  which,  in  making  its  determination,  shall  not  exceed  the  fair 
value  of  the  property  involved,  taking  into  consideration  its  original  cost  of  construc- 
tion, duplication  cost,  present  condition,  earning  power  at  reasonable  rates  and  all 
other  relevant  matters  and  any  additional  sum  or  sums  as  shall  be  actually  paid  in 
cash,  provided,  however,  that  the  commission  may  make  due  allowance  for  discoimt 
of  bonds.  Any  reorganization  agreement  before  it  becomes  effective  shall  be  amended 
so  that  the  amoimt  of  capitalization  shall  conform  to  the  amount  authorized  by  the 
commission. 

Under  this  amendment  the  factors  to  be  considered  in  a  case  of  re- 
organization are:  The  fair  value  of  the  property  involved;  the  original 
cost  of  construction;  duplication  cost;  present  condition;  earning  power 
at  reasonable  rates;  additional  sums  actually  paid  in  cash,  and,  lastly, 
all  other  relevant  matters.  The  amendment  was  supposed  to  repeal  the 
reorganization  sections  of  the  Stock  Corporation  Law  in  so  far  as  they 
conflicted  with  the  jurisdiction  of  the  Commissions,  and  to  give  the  latter 
full  power  to  base  the  capitalization  of  reorganized  companies  upon  the 
value  of  the  property.     In  other  words,  to  give  the  Commissions  the 

*  The  same  amendment  was  made  to  the  corresponding  sections  of  the  Law  which 
dealt  with  the  other  classes  of  utiUties. 


T98  CAPITAL  CONTROL  IN  NEW  YORK 

powers  which  they  thought  the  general  spirit  of  the  law,  as  originally 
enacted,  had  conferred  upon  them. 

One  of  the  first  cases  to  come  up  subsequent  to  the  adoption  of  the 
reorganization  amendment  was  that  of  the  Mid-Crosstown  Railway 
Company,  a  newly  organized  corporation. ^  This  was  an  application  for 
approval  of  an  issue  of  $500,000,  of  stock  and  $500,000,  of  bonds,  to  be 
delivered  to  the  bondholder's  committee  in  exchange  for  the  property  of 
the  Twenty-eight  and  Twenty-ninth  Streets  Crosstown  Railroad  Com- 
pany, which  had  been  purchased  by  the  committee. 

The  Commission  estimated  the  value  of  the  property  upon  the  basis 
of  reproduction-new.  Allowance  was  made,  among  other  items,  for 
depreciation;  also,  for  additions  for  preliminary  and  developmental  ex- 
penses, cost  of  property  owner's  consents,  franchises  and  permits, 
interest  and  taxes  during  construction,  and  organization  expenses  of  the 
new  company.  Upon  this  basis  the  Commission  arrived  at  the  con- 
clusion that  the  fair  value  of  property  owned  and  operated  did  not  exceed 
$165,000,  and,  including  property  owned  but  not  operated,  not  over 
$180,000. 

It  was  shown  that  the  earning  power  of  the  property  at  reasonable 
rates  was  not  sufficient  to  enable  the  new  corporation  to  pay  even  operat- 
ing charges,  if  the  system  was  operated  as  a  separate  unit.  If  operated 
in  connection  with  a  larger  system,  it  might  earn  more,  but  how  much 
more  was  uncertain.  The  bonds  alone  would  exceed  the  fair  value  of 
the  property,  upon  whatever  basis  it  might  be  estimated.  Hence,  there 
could  be  no  justification  for  issuing  $1,000,000,  of  securities,  and  the 
application  was  denied. 

In  the  Second  District,  also,  during  this  period,  an  important  case 
was  decided  in  accordance  with  the  powers  conferred  by  the  new  reor- 
ganization amendment.  This  was  the  case  of  the  Westchester  Street 
Raihoad  Company.^ 

The  value  which  the  Commission  put  upon  the  property  in  this  case 
was  arrived  at,  principally,  through  a  study  of  its  earning  power.  While, 
in  view  of  the  1912  amendment,  the  Commission  felt  that  it  had  a  free 
hand  to  base  the  amount  of  securities  approved  upon  the  value  of  the 
property,  that  value  seemed  a  very  difficult  matter  to  get  at  in  this  case, 
and  earning  power  was  given  importance  for  that  reason. 

2  Matter  of  the  Petition  of  the  Mid-Crosstown  Railway  Company,  Inc.,  for 
authority  to  issue  certain  stocks  and  bonds,  3  P.S.C.R.,  1st  Dist.,  N.  Y.,  416.  Opinion 
adopted  November  1, 1912. 

'  Matter  of  Application  of  the  Westchester  Street  Railroad  Company  for  authori- 
zation to  issue  capital  stock,  3  P.S.C.R.,  2nd  Dist.,  N.  Y.,  286.    Decided  April  24, 1912 . 


CAPITAL  CONTROL  IN  NEW  YORK  199 

The  property  involved  had  formerly  constituted  the  Tarrytown, 
White  Plains  and  Mamaroneck  Railway  Company,  and  had  been  sold 
at  a  judicial  sale  because  of  the  foreclosure  of  underlying  bonds.  Prac- 
tically the  whole  property  had  been  bid  in  at  the  sale  by  an  individual, 
and  the  applicant  company  had  been  organized  for  the  purpose  of  taking 
over  and  holding  the  property.  The  individual  had  turned  over  his  bid 
to  the  present  appUcant  corporation,  which  now  asked  for  authorization 
to  issue  capital  stock  in  the  amount  of  $912,000  to  make  the  purchase, 
and  to  cover  certain  expenses  incurred  by  the  corporation  in  connection 
therewith. 

The  outstanding  bonds  amoimted  to  $247,000.  These  had  been 
acquired  in  1909  by  the  New  York  New  Haven  and  Hartford  Raihoad, 
which  had  subsequently  caused  the  foreclosure  to  be  instituted  with  a 
view  to  acquiring  the  road,  and,  in  the  present  appHcation,  the  New  York 
New  Haven  and  Hartford  made  a  joint  application  for  the  consent  of  the 
Commission  to  take  and  hold  the  entire  capital  stock  authorized. 

As  to  the  primary  applicant,  the  Westchester  Street  Railroad  Com- 
pany, it  was  held  that  it  was  entitled  by  law  to  take  and  hold  the  property 
involved  and  was  entitled  to  issue  stock  for  it.  The  question  was  how 
much  stock  should  be  issued  for  the  property. 

The  Commission  was  at  loss  for  a  proper  method  or  for  rehable  clues 
by  which  to  fix  values  in  this  case  and  yet  felt  that  any  result  at  which  it 
might  arrive  must  have  some  basis  in  precedent.  So  a  survey  was  made 
of  judicial  decisions  bearing  upon  valuations  of  property  arrived  at  by 
various  methods  and  for  different  purposes,  such  as  tax  assessment, 
fixing  of  rates,  etc.,  with  the  idea  of  finding  what  rule,  if  any,  the  courts 
had  used  in  ascertaining  value. 

The  conclusion  seemed  to  be  that  the  courts  had  arrived  at  no  definite 
system,  and  that  the  Commission  would  have  to  do  the  best  it  could  with 
the  data  on  hand.  A  review  of  various  court  decisions  showed  that  the 
three  principal  classes  of  cases  in  which  there  had  been  a  determination 
of  the  value  of  property  by  governmental  authority  were:  Assessments 
for  the  purposes  of  taxation;  valuations  in  the  fixing  of  rates  to  be  charged 
by  public  service  corporations;  and  valuations  necessary  in  the  authoriza- 
tion of  the  capitalization  of  such  corporations.  In  the  first  two  classes, 
rules  for  the  fixing  of  value  had  been  laid  down,  but  in  the  last  class  it 
seemed  that  no  definite  rules  had  been  formulated  and  that  the  subject 
was  open  to  the  freest  discussion. 

In  many  of  the  earlier  tax  cases  use  had  been  made  of  the  method 
known  as  "commercial  valuation,"  which  is  arrived  at  by  ascertaining 


200  CAPITAL  CONTROL  IN  NEW  YORK 

the  cash,  or  market  value  of  the  shares  of  stock,  and  of  the  funded  debt. 
In  one  United  States  Supreme  Court  case  consideration  was  given  to  three 
theories;  commercial  value,  net  earning  power  capitalized,  and  cost  of 
reproduction.'*  The  idea  of  cost  of  reproduction  is  discussed  and  nega- 
tived for  purposes  of  taxation,  while  the  theory  of  determining  value  by 
net  earning  power  is  vigorously  supported.  The  United  States  Supreme 
Court  cases  in  which  methods  of  valuing  the  property  of  solvent  cor- 
porations for  taxation  purposes  was  involved  seemed  to  favor  the  com- 
mercial method  of  valuation  as  roost  satisfactory. 

In  the  present  case,  the  evidence  available  made  it  impossible  to 
ascertain  actual  cost.  The  securities  of  the  corporation  which  had  owned 
the  property  had  no  value,  so  that  commercial  valuation  was  impossible. 
Reproduction  cost  could  be  approximated,  and  would,  it  was  held,  be 
highly  desirable  to  existing  investors,  as  it  would,  to  a  large  extent, 
eliminate  business  risks. 

Danger  of  Placing  Undue  Stress  Upon  Earning  Power 
The  Commission  undoubtedly  had  a  difficult  problem  to  solve  in 
arriving  at  concrete  figures.  In  seeking  to  apply  the  rule  that  securities 
should  not  be  issued  in  excess  of  an  amount  upon  which  there  was  a 
reasonable  certainty  that  a  fair  return  could  be  paid,  it  was  necessary 
for  it  to  consider  the  earning  power  of  the  property  as  a  check  upon  the 
amount  of  securities.  But  to  give  to  earning  power,  as  a  test  of  value, 
the  unusual  emphasis  placed  upon  it  in  this  case  seems  totally  unjustifi- 
able. It  may  not  lead  to  embarrassing  results  in  the  case  of  a  utility 
whose  rates  are  reasonable,  but  if  the  test  could  be  applied  to  such  cases, 
it  could  also  be  applied  to  cases  where  the  rates  might  be  exorbitant. 
Earning  power  and  commercial  valuation  are  practically  identical,  for 
the  market  value  of  securities  is  based  upon  earning  power,  and  an  issue 
of  securities  based  upon  the  value  of  a  property,  as  indicated  by  its 
earning  power,  may,  in  a  subsequent  rate  case,  place  a  Commission  in  the 
position  of  being  between  'the  devil  and  the  deep  sea,'  as  regards  the 
investing  public  on  the  one  hand,  and  the  consuming  public  on  the  other. 
This  feature  received  special  emphasis  in  Commissioner  Maltbie's  opinion 
upon  the  first  reorganization  plan  submitted  by  the  bondholder's  com- 
mittee of  the  Third  Avenue  Railroad.^ 

*  Adams  Express  Company  v.  Ohio  State  Auditor,  165  U.  S.  194.     Decided 
February  1,  1897,  and  166  U.  S.  185,  decided  March  15, 1897. 
»  See  2  P.S.C.R.,  1st  Dist.  N.  Y.,  121. 


CAPITAL  CONTROL  IN  NEW  YORK  201 

The  evidence  in  (the  present)  case  gave  the  following  bases  from 
which  to  determine  the  value  of  the  property: 

1.  Reproductive  cost  less  depreciation. 

2.  Past  earning  power  of  the  road,  with  a  general  knowledge  of  the  prospects  for 
future  growth  and  business. 

3.  Price  which  the  property  realized  at  open  competitive  sale. 

A  valuation  made  by  a  well-known  firm  of  appraisers  gave  total 
duplication  cost  as  $862,839,  less  depreciation  of  $183,271,  leaving 
$679,568.  This  was  thought  to  be  too  high,  and  a  second  appraisal  was 
carried  through  in  conjunction  with  the  engineer  of  the  Commission, 
giving  a  total  reproductive  cost,  less  depreciation,  of  $445,694. 

A  study  of  earning  power  showed  that  under  the  old  managment  the. 
property  had  been  a  bad  loser  and  had  operated  with  a  deficit  exclusive 
even  of  fixed  charges  and  depreciation.  It  appeared  that  the  road  was 
saddled  with  a  franchise  which  required  it  to  carry  passengers  from 
Mamaroneck  to  White  Plains  for  five  cents.  This  could  be  done  only 
at  a  loss.  The  operation  under  the  new  management  had  seen  a  con- 
siderable increase  in  gross  earnings,  with  prospects  of  continued  improve- 
ment, but  the  road  would  still  be  saddled  with  the  aforementioned 
franchise. 

To  increase  the  earnings  of  the  road,  large  sums  must  be  spent  upon 
improvements,  which  capital  would  have  to  be  raised  by  bonds.  If 
the  amount  of  stock  ($900,000)  for  which  authorization  was  asked,  were 
issued,  it,  together  with  the  necessary  bonds,  would  constitute  a  fixed 
capital,  the  payment  of  a  return  upon  which  the  present  prospects  of 
the  road  did  not  in  any  way  justify. 

The  price  paid  for  the  property  at  the  judicial  sale  was  $882,400.  The 
evidence,  however,  showed  that  no  investigation  as  to  earning  power  had 
been  made,  no  inventory  and  appraisal,  nor  any  engineering  estimate  as 
to  reproductive  cost.  In  addition,  the  purchaser  had  considered  fran- 
chise value,  and  this  it  was  illegal  to  capitahze. 

Moreover,  subsequent  investigation  showed  that  large  parts  of  the 
road  would  have  to  be  rebuilt.  In  view  of  these  facts  $400,000  was  con- 
sidered by  the  Commission  to  be  a  just  estimate  of  the  value  of  the  road 
at  the  time  of  the  purchase. 

The  applicant  sued  out  a  writ  of  certiorari  and  had  the  case  reviewed 
by  the  Appellate  Division  of  the  Supreme  Court,  and  the  latter  reversed 
the  order  of  the  Commission  both  upon  the  law  and  the  facts.*    The 

•  People  ex  rel.  The  Westchester  Street  Railroad  Company  and  the  N.  Y.,  N. 
H.  and  Hartford  R.  R.  Co.,  v.  Public  Service  Commission,  158  App.  Div.  (N.  Y.,)  251. 
Decided  July  8, 1913. 


202  CAPITAL  CONTROL  IN  NEW  YORK 

finding  of  fact,  disapproved  of,  as  against  the  evidence,  was  that  the 
value  of  the  property  was  only  $400,000.  The  Court  held  that  in  such 
cases  of  purchase  of  the  franchises  and  property  of  one  corporation  by 
another  at  foreclosure  sale,  the  Commission  should  take  into  considera- 
tion the  amount  paid  upon  bona  fide  competitive  bids  at  a  public  sale. 

The  matter  was  remitted  to  the  Commission  for  further  consideration 
in  accordance  with  the  opinion  of  the  Court,  which  placed  primary  em- 
phasis upon  purchase  price  in  the  open  market  as  a  criterion  of  value. 

The  Commission  carried  the  case  to  the  Court  of  Appeals,''  which 
objected  to  the  importance  placed  by  the  Supreme  Court  upon  the  market 
price  as  a  criterion  of  value  and  ruled  that  the  decision  of  the  Supreme 
Court  should  be  modified  in  this  respect  and  that  the  case  should  be 
remitted  to  the  Commission  for  further  evidence  as  to  the  value  submitted 
by  either  party. 

^  People  ex  rel.  The  Westchester  Street  Railroad  Company  et  al.,  v.  Public  Service 
Commission,  2 10  U.  S.  456.    Decided  March  17, 1914. 


CHAPTER  XVIII 

Reorganization  Under  the  Public  Service  Commissions 
Law — Fourth  Period 

The  Dry  Dock  refunding  case  is  of  special  interest  because  it  is 
generally  felt  that  it  was  properly  a  reorganization,  and  that  it  would 
have  been  so  presented  by  the  applicant  company  had  it  not  been  for  the 
fact  that  the  1912  amendment  gave  the  Commissions  specific  power  to 
base  the  amoimt  of  securities  issuable  in  a  reorganization  case  upon  the 
value  of  the  property. 

On  July  31,  1913,  the  Dry  Dock,  East  Broadway  and  Battery  Rail- 
road, which  we  shall  refer  to  as  the  Dry  Dock  Company,  presented  its 
appUcation  for  approval  of  the  issuance  of  refunding  securities.* 

The  road  had  been  operated  for  some  years  as  a  part  of  the  Third 
Avenue  system,  but  had  been  in  the  hands  of  a  receiver  appointed  by  the 
Federal  Court  since  early  in  1908.  It  had  outstanding  capital  stock  to 
the  amount  of  $1,200,000,  practically  aU  of  which  was  owned  by  the 
Third  Avenue  Company.  All  the  preferred  claims  against  the  Dry 
Dock  Company  had  been  paid  by  the  Third  Avenue  Company  and  claims 
not  entitled  to  a  preference  had  also  been  acquired. 

The  apphcant  presented  to  the  Commission  a  petition  setting  forth 
that  an  agreement  had  been  made  between  it,  the  Third  Avenue  Railway 
Company,  and  a  protective  Committee  of  the  holders  of  certain  certifi- 
cates of  indebtedness  (of  a  total  of  $1,100,000)  for  the  refunding  of  all 
the  company's  debts  and  obUgations  by  the  issue  of  refunding  mortgage 
gold  bonds  payable  in  1960  and  secured  by  a  mortgage  and  deed  of  trust.^ 

The  apphcation  asked  consent  to  the  issue  of  a  refunding  mortgage, 
providing  for  the  issue  of  three  classes  of  bonds  as  follows: 

Series  A  bonds  5%  $1,500,000 

Series  B  bonds  4%  520,000 

Series  C  bonds  4%  interest  payable  only  if  earned  up  to  Jan.  1,  1925  2,240,000 


$4,260,000 

The  Series  A  bonds  were  not  to  be  issued  imder  this  proceeding,  but 
were  to  be  kept  for  the  purpose  of  refunding  the  outstanding  general 
mortgage  bonds  which  would  become  due  in  1932,  to  the  amount  of 

>  Matter  of  the  Application  of  the  Dry  Dock,  East  Broadway  and  Battery  Rail- 
road Company  for  Permission  to  Issue  Bonds,  5  P.S.C.R.,  1st  Dist.,  N.  Y.  213.  De- 
Decision  rendered  April  28,  1914.  See  also  Rehearing  of  same  case,  5  P.S.C.R.,  1st 
Dist.  N.  Y.,  337.    Order  adopted  December  11, 1914. 

*  The  debts  of  the  company  at  this  time  were  as  follows: 


204  CAPITAL  CONTROL  IN  NEW  YORK 


),000,  and  to  provide  for  future  capital  requirements  to  the  extent  of 
$550,000. 

Permission  was  now  asked  to  issue  Series  B  and  Series  C  bonds, 
amounting  to  $2,760,000,  for  the  purpose  of  refunding  debts  of  the 
company  amoimting  to  some  $3,800,000. 

The  item  of  $1,100,000  of  certificates  of  indebtedness  is  of  special 
interest.  On  February  1,  1884,  the  company  had  a  book  surplus  of 
$1,200,000.  Against  this  it  issued  certificates  of  indebtedness  to  the 
same  amount  and  gave  them  to  its  stockholders  according  to  the  amount 
of  their  stock.  Of  these  certificates  and  their  significance  we  quote  from 
the  opinion  of  Commissioner  Hayward  as  follows  :^ 

It  (the  company)  had  a  surplus  invested  in  property  and  available  for  deprecia- 
tion purposes,  but  stockholders  were  not  satisfied  with  16%  dividends  and  managed 
to  obtain  something  better  than  a  stock  dividend,  i.e.,  $1,200,000  of  certificates  of 
indebtedness.  The  transaction  was  in  effect  a  distribution  of  a  depreciation  fund  and 
necessarily  impaired  the  capital  of  the  company  to  the  extent  that  it  drew  upon  such 
depreciation  reserve. 

Certificates  to  the  amount  of  $100,000  had  been  paid  off  in  1891, 
leaving  the  $1,100,000,  outstanding.     If  the  results  of  such  financing 

1.  Mortgage  to  the  Farmers  Loan  &  Trust  Co.  as  Trustee,  being  a  first 

lien  on  all  of  petitioner's  property  $950,000.00 

2.  Receiver's  certificates  issued  under  the  order  of  the  Court  dated  Apr. 
22,  1911.  $350,000.00 
Accrued  interest  to  Jime  30, 1913,  thereon  27,330.35 
Receiver's  certificates  issued  under  the  order  of  the  Court  dated  July, 

1913.  149,000.00        526,330.35 

3.  Five  per  cent,  certificates  of  indebtedness  issued  by  petitioner  in  the 
year  1892  1,100,000.00 

Accrued  interest  from  Aug.  1, 1907,  to  June  30, 1913  325,416.67      1,425,416.67 

4.  Claim  of  Third  Ave.  Railroad  based  on  promissory  note  dated  Apr. 
30,  1907,  for  $1,882,963.70.  This  note  having  been  proved  before  the 
special  master,  the  railroad  company  voluntarily  reduced  its  claim  to 
$1,500,000  at  which  svmi  it  was  approved  by  the  master  1,500,000.00 

5.  Claims  on  contract  and  tort  allowed  by  the  special  master  58,513.60 

6.  Claims  for  money  expended  by  the  Third  Ave.  R.  R.  Co.  in  the  ac- 
quisition or  settlement  of  claims  against  the  petitioner  30,000.00 


Total  $4,490,260.62 


See  167  App.  Div.  (N.  Y.,)  page  289. 

'  Matter  of  Application  of  The  Dry  Dock  East  Broadway  and  Battery  Railroad 
Company  to  issue  refunding  bonds,  7  P.S.C.R.,  1st  Dist.,  N.  Y.,  59.  Opinions  adopted 
May  4  and  May  25, 1916. 


CAPITAL  CONTROL  IN  NEW  YORK  205 

were  not  so  serious,  they  would  be  amusing.  A  property  may  or  may 
not  burn  down,  but  there  is  no  uncertainty  about  its  depreciating;  this  is 
as  inevitable  as  time  and  tide,  and  a  depreciation  reserve  is  simply  an 
insurance  fund.  To  neglect  such  a  need  would  have  been  incurring  a 
heavy  enough  risk,  but  to  make  it  a  double  liability  by  issuing,  not  even 
stock,  but  certificates  of  indebtedness  with  a  fixed  rate  of  interest,  was 
absurd.  The  interest  rate  was  6  per  cent,  and  later,  5  per  cent.  At  6  per 
cent  the  full  amount  would  involve  an  annual  charge  of  $72,000  in  addi- 
tion to  a  UabiUty  of  $1,200,000  and  a  corresponding  loss  of  depreciation 
reserve. 

The  Commission's  engineer  fixed  the  value  of  the  apphcant's  property 
at  $2,470,306.  The  company  offered  no  evidence  along  this  line.  The 
Commission  finally  denied  the  petition  by  a  majority  vote,  for  three 
reasons,  first,  because  of  lack  of  proof  that  the  securities  to  be  refunded 
represented  proper  capital  charges,  second,  because  the  value  of  the 
property  was  less  than  the  amount  of  the  securities  for  which  approval 
was  asked,  and  third,  because  earnings  would  not  be  sufi&cient  to  pay 
interest  on  the  bonds. 

A  rehearing  was  asked.  This  was  granted,  but,  after  further  testi- 
mony, the  apphcation  was  again  denied. 

The  company  then  sued  out  a  writ  of  certiorari  and  the  Appellate 
Division  affirmed  the  Commission's  decision  in  denying  the  petition,  but 
held^  that  the  Commission  had  no  power  to  use  the  value  of  the  property 
as  a  basis  or  test  in  considering  the  propriety  of  security  issues  for  re- 
funding purposes. 

The  position  of  the  applicant  in  this  case  was  the  same  as  that  taken 
by  several  applicant  companies  in  reorganization  cases  prior  to  the  1912 
amendment,  namely,  that  where  a  public  utility  had  outstanding  obliga- 
tions issued  before  the  Pubhc  Service  Commission  Law  went  into  effect, 
the  Commission's  jurisdiction  was  purely  ministerial. 

The  company  evidently  thought  it  had  discovered  another  "twilight 
zone"  similar  to  that  which  had  existed  in  the  case  of  reorganizations, 
and  the  decision  of  the  court  seemed  to  bear  them  out. 

The  court  (Appellate  Division  of  the  Supreme  Court)  held  that  the 
1912  amendment  appHed  exclusively  to  reorganizations,  and  hence, 
refunding  of  securities  occupied  the  same  status  with  regard  to  the 
jurisdiction  of  the  Commission  that  it  had  always  done,  the  same  as 

*  People  ex  rel.  Dry  Dock,  East  Broadway  and  Battery  Railroad  Company  et  al. 
V.  Public  Service  Commission,  167  App.  Div.  286.     Decided  May  7, 1915. 


206  CAPITAL  CONTROL  IN  NEW  YORK 

that  occupied  by  the  issuance  of  securities  upon  a  reorganization  plan 
prior  to  the  1912  amendment.^ 

It  is  hard  to  see  the  logic  of  the  position  assumed.  The  Court  of 
Appeals  in  the  Third  Avenue  case  determined  that  the  Public  Service 
Commissions  Law  did  not  make  the  actual  value  of  the  property  of  the 
corporation  the  basis  for  the  issuance  of  securities  under  a  reorganization 
plan  'because  there  existed  a  specific  statute  (Stock  Corporation  Law, 
Sections  9  and  10)  dealing  with  reorganizations,  which,  it  was  claimed 
was  not  repealed  by  implication  by  the  general  terms  of  the  Public  Ser- 
vice Commissions  Law.  But  there  was  no  specific  statute  existing  which 
related  to  the  refunding  of  securities,  nothing  to  be  repealed  by  implica- 
tion or  otherwise  with  which  the  general  purposes  of  the  Pubhc  Service 
Commissions  Law  would  have  to  contend,  and,  therefore,  the  reasoning 
of  the  court  in  the  Third  Avenue  decision  does  not  seem  to  be  applicable 
to  the  present  case. 

However,  by  the  terms  of  the  court's  decision  the  value  of  the  pro- 
perty as  a  test  for  securities  to  be  issued  in  refund  is  discarded.  The 
real  question,  the  court  contends,  is  whether  the  Pubhc  Service  Commis- 
sions Law  does  vest  the  Commission  with  the  power  of  inquiry  into  the 
application  of  the  funds  represented  by  the  securities  sought  to  be  re- 
funded, by  determining  that  such  funds  were  actually  applied  to  capital 
account  and  by  limiting  their  approval  of  new  securities  to  those  required 
to  refund  obligations  representing  actual  additions  to  capital. 

While,  as  an  original  proposition,  the  court  argues,  it  might  hold  that 
the  commission  had  no  power  to  do  more  than  determine  whether  the 

'  The  court  in  its  decision  just  referred  to,  says:  "It  (the  reorganization  amend- 
ment of  1912)  did  not  apply  by  its  terms  to  the  other  possible  means  of  disposing  of  its 
property  (1)  by  merger,  or  (2)  by  voluntary  sale.  Nor  did  the  provisions  of  Section 
55-a  reorganization  amendment  apply  to  the  refunding  of  the  existing  obligations  of  a 
which  it  was  not  proposed  to  reorganize  in  anticipation  of  a  sale,  or  thereafter.  The 
reasoning  of  the  Court  of  Appeals  in  the  Third  Avenue  case,  in  determining  that  the 
statute  did  not  make  the  actual  value  of  the  property  of  the  corporation  the  basis  for 
the  issuance  of  securities  under  a  reorganization  plan,  it  seems  to  me,  is  equally  applica- 
ble to  the  issuance  of  refunding  securities,  and  the  value  of  the  mortgaged  property 
can  have  no  bearing  upon  the  amount  of  new  securities  to  be  issued  under  the  refund- 
ing plan.  Applying  the  reasoning  of  the  Court  of  Appeals  to  the  question  at  bar, 
which  is  unaffected  in  any  way  by  the  subsequent  amendment  by  the  Legislature  re- 
ferred to,  it  would  seem  that  imless  there  is  some  special  language  in  the  provision  of 
the  statute  relating  to  refunding  which  differentiates  it  from  the  provision  for  re- 
organization, the  functions  of  the  Commission  do  not  include  a  determination  of  the 
value  of  the  corporate  property  as  a  basis  for  the  amount  of  new  securities  to  be 
issued  in  refund. " 


CAPITAL  CONTROL  IN  NEW  YORK  207 

original  securities  were  validly  issued,  and  whether  the  aggregate  of  the 
issues  to  be  refunded  did  not  exceed  them  in  amount,  the  language  in 
the  Binghamton  case,^  which,  the  Court  claimed,  ampHfied  that  in  the 
Delaware  and  Hudson  case,^  made  it  clear  that  the  commissioners  were 
charged  with  "a  fuller  and  further  duty."    Said  the  court: 

It  is  there  laid  down  as  the  settled  policy  of  the  State  that  the  commissioners,  in 
their  duty  of  protecting  the  public  can  and  must  determine,  before  they  give  their 
consent  to  the  issue  of  refunding  securities,  that  the  purposes  for  which  the  original 
securities  were  to  be  issued  were  strictly  capital  purposes,  and  not  expense  or  operating 
purposes,  and  this,  it  vvill  be  seen,  has  been  carried  so  far  that  the  Court  has  required 
the  company  to  provide  otherwise  than  by  bonds  for  the  expenses  attending  the 
ordinary  renewal  of  its  plant.  The  language  used  in  the  Binghamton  case  is  so  broad 
that  it  applies  to  every  application  for  refunding,  no  matter  when  the  original  securities 
were  issued.* 

Conclusions  of  the  Court  Upon  a  Commission's  Powers 
in  a  Refunding  Case 

The  Court  simimarized  its  conclusions^  as  follows: 

While,  therefore,  the  commission  was  wrong  in  applying  the  test  of  the  actual 
value  of  the  company's  property  and  its  earning  capacity  as  a  criterion  for  its  approval 
of  the  issue  of  these  new  securities,  it  was  right  in  refusing  to  approve  their  issue  until 
the  relator  had  proven  that  the  securities  sought  to  be  refunded  represented  actual 
investments  for  the  company's  capital  account.  ...  Therefore,  it  seems  to  be 
quite  immaterial  how  long  ago  the  original  securities  were  issued  where  the  approval 
of  the  commission  is  sought  to  a  refunding  issue  and  proof  of  such  investments  must 
still  be  given  as  a  basis  for  the  action  of  the  commission.  .  .  . 

I  therefore  reach  the  conclusion  that  in  a  refunding  case  the  inquiry  of  the  Com- 
mission is  properly  directed  to  the  following  considerations,  the  evidence  requisite  to 
reach  a  determination  whereupon  should  be  furnished  by  the  petitioner:  (1)  Whether 

*  People  ex  rel.  Binghamton  Light,  Heat  and  Power  Company  v.  Stevens,  203 
N.  Y.,  7.    Decided  October  3, 1911. 

'  People  ex  rel.  The  Delaware  and  Hudson  Company  v.  Stevens,  197  N.  Y.,  1. 
Decided  December  7, 1909. 

*  As  regards  the  responsibility  of  the  Commission  to  the  investing  public  and 
the  significance  of  its  approval  the  Court  goes  on  to  say  (167  App.  Div.,  286):  "The 
fact  that  the  effect  of  such  a  refusal  to  a  refunding  plan  in  a  single  case  may  be  disas- 
trous, as  it  is  very  apt  to  prove  in  the  present  one,  is  not  the  controlling  consideration, 
but  rather,  that  under  the  settled  policy  of  the  law  as  now  determined  by  the  Legisla- 
ture and  interpreted  by  the  courts,  the  approval  of  the  commission  to  the  issue  of  new 
seciirities,  whether  it  be  for  refimding  or  other  purposes,  is  notice  to  the  pubUc  that 
the  securities  so  authorized  by  it  represent  at  least  investments  made  by  the  Com- 
pany for  capital  account  and  not  disbursements  for  mere  temporary  purposes. " 

» People  ex  rel.  Dry  Dock,  East  Broadway  and  Battery  Railroad  Company  et 
al.  V.  Pubhc  Service  Commission,  167  App.  Div.,  286.    Decided  May  7, 1915. 


208  CAPITAL  CONTROL  IN  NEW  YORK 

the  proposed  issue  is  reasonably  required  for  the  refunding  purpose.  ^2)  Whether  the 
expenditure  to  be  refunded  is  a  capital,  as  distinct  from  an  operating  or  income, 
charge.  (3)  If  the  expenditure  to  be  refunded  is  an  operating  or  income  charge, 
whether  such  refunding  should  nevertheless  be  permitted  under  the  exception  clause 
of  the  statute  which  reads:  "Except  as  otherwise  permitted  in  the  order  in  the  case 
of  bonds.  "i» 

The  Commission,  in  compliance  with  the  mandate  of  the  Court, 
proceeded  to  examine  the  securities  which  it  was  proposed  to  refund  upon 
the  basis  of  question  2  (as  above)." 

They  came  to  the  conclusion  that  the  maximum  amount  that  could 
be  allowed  was  $1,828,385,  as  compared  with  the  $4,260,000,  asked  for. 

The  final  question  was  whether  the  Commission  should  use  its  dis- 
cretion under  the  statute  and  as  outlined  under  question  3  above,  to 
allow  the  issue  of  the  rest  of  the  Series  C  bonds,  amounting  to  $931,615, 
for  the  refunding  of  debts  which  the  Commission  could  not  certify  as  not 
being  chargeable  to  operating  expenses  or  to  income. 

The  Commission  stated  that  while  it  was  true  that  the  certificates  of 
indebtedness  had  been  bought  in  good  faith  and  were  widely  held,  sym- 
pathy for  those  wronged  in  the  past  should  not  be  allowed  to  lead  to  the 
deception  of  future  investors.  Moreover,  it  was  held  that  the  issuing  of 
bonds  for  operating  expenditures  would  be  feasible  only  if  the  same  could 
with  certainty  be  amortized  rapidly  from  income.  As  the  evidence  in  the 
case  gave  no  promise  of  the  possibility  of  such  amortization,  or  even  of 
interest  payment,  their  issue,  it  was  decided,  would  be  wholly  un- 
justifiable. 

The  Court  had  held  that  the  Commission  was  wrong  in  applying  the 
test  of  the  actual  value  of  the  company's  property  and  its  earning  capacity 
as  a  criterion  for  its  approval  of  the  issue  of  the  new  securities.  Inas- 
much as  the  Commission's  decision  had,  however,  been  affirmed  by  the 
Court,  it  was  impossible  to  appeal  from  this  ruling  to  the  Court  of 
Appeals.  This  was  imfortunate  as  it  leaves  the  jurisdiction  of  the  Com- 
missions undecided  in  regard  to  future  applications  for  refunding  issues. 
In  the  words  of  Commissioner  Hayward: 

One  of  the  broad  underlying  purposes  of  the  Public  Service  Commissions  Law  was 
to  insure  against  over-capitalization,  and  it  has  always  been  the  proud  boast  of  this 
Commission  that  securities  would  not  be  authorized  beyond  the  value  of  the  property 
subject  to  them,  or  under  such  circumstances  that  it  could  not  reasonably  be  antici- 

1"  Bonds  permitted  under  the  proviso  are  generally  made  subject  to  rapid  amorti- 
zation. 

"  Matter  of  Application  of  the  Dry  Dock,  East  Broadway  and  Battery  Railroad 
Company,  7  P.S.C.R.,  1st  Dist.,  N.  Y.,  59.    Opinions  adopted  May  4  and  25, 1916. 


CAPITAL  CONTROL  IN  NEW  YORK  209 

pated  that  the  interest  thereon  would  be  paid.  The  decision  of  the  Appellate  Division 
however  held  that  in  the  case,  at  least,  of  refunding  securities,  the  value  of  the  com- 
pany's property  and  its  ability  to  pay  interest  upon  the  proposed  issues  could  not  be 
considered  by  the  Commission.  Under  that  decision,  therefore,  the  purpose  of  the 
Public  Service  Commissions  Law  in  this  respect  might  very  well  be  frustrated  and 
refunding  bonds  insufficiently  secured  might  very  well  be  issued  with  the  approval 
of  this  Commission  stamped  upon  them  to  hasten  them  into  the  hands  of  the  unwary 
investor."'* 

This  is  the  present  situation  which  seems  to  point  to  a  serious  defect 
in  the  law,  and  which  can  be  remedied  only  by  a  change  of  judicial  inter- 
pretation or  by  an  amendment  to  the  PubUc  Service  Conmiissions  Law. 

12  See  7  P.S.C.R.,  1st  Dist,  N.  Y.,  page  83. 


PART  FIVE 

CONSOLIDATIONS,  MERGERS  AND  TRANSFERS  OF  STOCK 

Consolidations,  mergers  and  stock  transfers  have  so  many  p)ouits  in 
common  that  it  seems  practical  to  treat  of  them  together.  Consolida- 
tions and  mergers  have  been  grouped  in  one  chapter  and  stock  transfers 
in  another. 


CHAPTER  XIX 

Consolidations  and  Mergers 

Consolidations  and  mergers  are  very  similar.  In  a  consolidation  we 
have  the  union  of  two  or  more  existing  companies  into  a  new  company 
in  which  the  former  companies  lose  their  identity.  A  merger,  on  the 
other  hand,  is  the  absorption  by  an  existing  company  of  one  or  more 
other  existing  companies  into  its  organization.  In  this  case  the  original 
company  preserves  its  identity.^  The  provision  of  the  Public  Service 
Commissions  Law  dealing  with  consohdations  and  mergers  provides  that 
their  capital  stock  shall  not  exceed  the  sum  of  the  capital  stock  of  the 
constituent  companies  at  its  par  value,  plus  any  additional  sum  paid  in 
cash.2 

It  is  further  provided  that  no  contract  for  consolidation  or  lease 
shall  be  capitalized,  nor  shall  any  bonds  be  issued  as  a  Hen  upon  any 
contract  for  consohdation  or  merger.  The  provisions  of  the  law  relating 
to  consolidation  and  mergers  are  as  originally  enacted.  Before  the  pas- 
sage of  the  Public  Service  Commissions  Law,  corporations  had  a  legal 
right  to  consoUdate  without  the  authorization  of  anyone  outside  of  their 
own  corporate  organizations.  Since  then  they  have  had  the  same  right 
subject  to  the  authorization  of  the  proper  commission. 

^  In  this  connection  we  quote  from  the  headnote  of  the  case  of  Lee  vs.  Atlantic 
Coast  Line  Railroad  Co.,  150  Fed.  Rept.,  775,  as  follows: 

"There  is  a  distinct  difference  between  the  consolidation  and  the  merger  of  two 
railroad  companies.  In  a  consolidation  both  go  out  of  existence  as  separate  corpora- 
tions and  a  new  corporation  is  created  which  takes  their  place  and  property;  while  in 
the  case  of  a  merger  one  loses  its  identity  by  absorption  in  the  other  which  remains  in 
existence  and  succeeds  to  its  property  and  issues  its  own  stock  to  the  stockholders  of 
the  merged  company." 

*  This  provision  is  practically  identical  in  its  application  to  all  classes  of  public 
utility  corporations  and  reads  as  follows: 

"Nor  shall  the  capital  stock  of  a  corporation  formed  by  the  merger  or  consolida- 
tion of  two  or  more  other  corporations  exceed  the  sum  of  the  capital  stock  of  the  cor- 
porations so  consolidated,  at  the  par  value  thereof,  or  such  sum  and  any  additional 
sum  actually  paid  in  cash;  nor  shall  any  contract  for  consolidation  or  lease  be  capi- 
talized in  the  stock  of  any  corporation  whatever;  nor  shall  any  corporatin  hereafter 
issue  any  bonds  against  or  as  a  lien  upon  any  contract  for  consolidation  or  merger. " 
See  Public  Service  Commissions  Law — Chapter  48  of  the  Consolidated  Laws  of  New 
York. 


212  CAPITAL  CONTROL  IN  NEW  YORK 

This  point  was  thoroughly  threshed  out  in  a  case  involving  the  Water- 
town  Light  and  Power  Company.^  The  applicant  in  this  case  disputed 
the  necessity  of  a  commission's  approval  of  a  proposed  consolidation. 
The  Commission  held  that  the  Public  Service  Commissions  Law  expressly 
provided  that  there  should  be  no  transfer  of  franchise,  works,  or  system 
of  any  gas  or  electrical  corporation  without  the  written  consent  of  the 
Commission,^  that  while  the  Public  Service  Commissions  Law  did  not 
repeal  the  older  laws,  it  did  add  something  to  their  requirements,  and 
placed  a  limitation  upon  the  effectiveness  of  such  provisions  of  law  where- 
by the  transfer  constituting  the  consolidation  is  restrained  until  approved 
by  the  Commission. 

There  was  no  question  of  any  repeal  of  statutes,  the  Commission 
held.  All  the  requirements  necessary  under  the  older  laws  remained  in 
full  force;  but  there  had  been  added  one  other — the  consent  of  the  proper 
Public  Service  Commission.^  Thus,  the  Commission  held,  a  gas  or  elec- 
trical company  might  sell  its  office  furniture,  or  any  other  of  its  posses- 
sions which  were  riot  vital,  but,  without  the  proper  consent  of  the  Pubhc 
Service  Commission,  it  might  not  dispose,  by  sale  or  lease,  of  the  three 
things  which  are  essential  to  its  very  existence  as  a  public  service  cor- 
poration: its  franchise,  its  works,  or  its  system. 

The  Commissions  Have  no  Power  to  Compel  Consolidation 
On  the  other  hand,  the  Commissions  have  no  powers  to  compel  a 
consoUdation  or  merger.  In  a  Second  District  case,^  the  Commission 
had  granted  certain  appHcations  as  to  issues  of  stock  and  stock  transfers 
upon  the  understanding  that  the  consolidation  which  formed  part  of  the 
proposed  plan  would  be  consummated.    The  opinion  closed  as  follows: 

It  (the  Commission)  realizes  that  it  has  no  powers  to  compel  the  consolidation  or 
the  merger,  and  that  these  acts  (said  consolidation)  will  take  place  depends  upon  the 

'  Matter  ol  Application  of  the  Watertown  Light  and  Power  Company  and  the 
Watertown  Gas  Light  Company  for  approval  of  a  consolidation,  1  P.S.C.R.,  2nd  Dist., 
N.  Y.,  496.    Decided  March  9, 1909. 

*  See  Public  Service  Commissions  Law,  Section  70.     Chapter  48,  Consolidated 

Laws  of  New  York. 

"The  Public  Service  Commissions  Law  in  this  connection  holds  as  follows: 
"No  gas  corporation  or  electrical  corporation  shall  transfer  or  lease  its  franchise, 

works  or  system  or  any  part  of  such  franchise,  works  or  system  to  any  other  person  or 

corporation  .  .  .  without  the  written  consent  of  the  proper  Commission. " 

•  Matter  of  Application  of  the  New  York  Central  and  Hudson  River  Railroad 

Company  for  leave  to  acquire  certain  stocks,  1  P.S.C.R.,  2nd  Dist.,  N.  Y.  294.     See 

bottom  page  318. 


CAPITAL  CONTROL  IN  NEW  YORK  213 

good  faith  of  the  pjarties  which  is  pledged  to  the  same,  and  of  which  pledge  these  re- 
marks are  to  remain  as  the  evidence. 

A  Proposed  Consolidation  Must  he  the  Subject  of  a 
Formal  Application 

Nor  can  the  merits  of  a  proposed  consolidation  be  determined  in  a  col- 
lateral way  upon  a  mere  application  for  approval  of  the  execution  of  a 
mortgage,  etc.  A  consohdation  must  be  the  subject  of  a  formal  appHca- 
tion.  Provision  must  be  made  for  notice  to  minority  stockholders, 
notice  to  nonconsenting  bondholders,  notice  to  the  public,  and  for  a  full 
investigation  by  the  Commission  with  an  opportunity  for  the  cross- 
examination  of  witnesses. 

In  a  case  in  point  there  was  presented  a  comprehensive  plan  involving 
approval  of  certain  proposed  mortgages,  exchange  of  certain  issues  of  33^ 
per  cent  bonds  for  new  4  per  cent  bonds  and  the  taking  in  of  certain  rail- 
way properties  by  consolidation.^  The  approval  of  the  proposed  mort- 
gages was  the  first  step  and  was  all  that  was  asked  for  in  the  appHcation. 
This  was  granted  with  the  distinct  understanding  that  it  did  not  in  any 
wise  commit  the  Commission  to  the  approval  in  advance  of  the  proposed 
consolidation  or  the  proposed  exchange  of  bonds. 

Scope  of  the  Public  Service  Commissions  Law  as  Affecting 
Consolidation 

The  provisions  of  the  law  which  require  the  consent  and  authorization 
of  the  Commission  do  not  state  for  what  reasons  such  authorization  and 
consent  may  be  refused.  It  would  seem  that  the  Legislature  left  such 
reasons  to  be  worked  out  by  the  commissions  themselves  in  accordance 
with  the  object  and  purpose  of  the  Public  Service  Commissions  Law. 

The  theory  of  the  Pubhc  Service  Commissions  law,  especially  in  view 
of  the  Delaware  and  Hudson  decision,  would  seem  to  be  to  leave  the 
management  and  control  of  a  corporation  subject  to  the  jurisdiction  of 
the  Commission  wholly  to  the  authorities  within  the  corporation,  as  be- 
fore the  enactment  of  the  law.  The  Commission,  however,  has  power  to 
regulate  the  corporation  in  those  cases  over  wh.'ch  the  Legislature  has 
given  it  jurisdiction. 

The  veto-power  of  the  Commission  was  evidently  intended  to  be  used 
in  the  case  of  a  proposed  act  of  a  corporation  only  when  such  act  was 
against  pubhc  interest  or  contrary  to  law.    If  the  Commission  goes  be- 

^  Matter  of  Application  of  the  New  York  Central  and  Hudson  River  Railroad 
Company  for  leave  to  execute  certain  mortgages,  4  P.S.C.R.,  2nd  Dist.,  N.  Y.  23. 
Decided  November  19,  1913. 


214  CAPITAL  CONTROL  IN  NEW  YORK 

yond  this,  it  will  be  assuming  the  administration  of  the  corporation. 
Public  interest  consists,  firstly,  of  the  consuming  public,  in  relation  to 
the  quality  of  service  rendered  and  the  prices  charged;  secondly,  of  the 
investing  public,  in  relation  to  the  value  of  the  securities  issued  by  public 
service  companies. 

Many  Harmful  Results  of  Consolidation  Eliminated  by 
Commission  Control 

In  many  cases  of  merger,  consolidation  and  stock  transfer,  in  which, 
before  the  enactment  of  the  Public  Service  Commissions  Law,  there 
might  have  been  serious  objections  on  the  score  of  pubhc  interest,  such 
objections  have  been  completely  done  away  with  by  the  control  which  the 
commissions  may  exercise.  For  instance,  where  consolidation  was 
formerly  used  as  a  means  of  inflation  of  capitahzation,  or  for  the  per- 
fecting of  a  monopoly  with  increases  in  prices  charged  to  consumers, 
such  objections  would  not  now  exist  under  commission  control. 

In  cases  of  merger  where  the  merger  company  issues  stock  to  the 
stockholders  of  the  merged  company  or  companies,  the  commissions  may 
prevent  the  issue  of  a  large  amoimt  of  stock  upon  a  possibly  fictitious 
basis.  In  permitting  an  issue  of  stock  or  bonds  for  the  purchase  of  other 
stock,  the  commissions  ascertain,  as  far  as  possible,  that  the  value  of  the 
stock  purchased  is  substantially  equal  to  the  par  value  of  the  new  stock 
issued. 

Such  a  case  was  the  application  of  the  Elmira,  Coming  and  Waverly 
Railway^  for  permission  to  issue  bonds  with  which  to  purchase  the  stock 
of  certain  other  small  railroads,  pursuant  to  a  plan  of  consolidation. 
The  application  was  denied  because  of  failure  of  the  applicant  to  show 
proof  that  the  value  of  the  properties  to  be  purchased  warranted  the 
price  to  be  paid. 

Ascertainment  of  Value  of  Securities 

Any  accurate  valuation  of  securities  in  such  a  case  seems  out  of  the 
question  without  a  detailed  investigation  of  the  property  involved. 
About  all  that  can  be  arrived  at  in  the  average  case  is  an  approximation, 
based  upon  a  consideration  of  the  physical  extent  and  condition  of  the 
properties,  the  equipment,  the  gross  earnings  for  a  period  of  years,  the 
total  indebtedness  and  fixed  charges,  and  the  total  of  the  capital  stock. 

'Matter  of  Application  of  Elmira,  Corning  and  Waverly  Railway,  1  P.S.C.R., 
2nd  Dist.,  N.  Y.  328.    Decided  July  23,  1908. 


CAPITAL  CONTROL  IN  NEW  YORK  215 

Bases  for  Permission  to  Consolidate 

Most  applications  for  consolidation  which  have  come  before  the 
New  York  State  Commissions  have  based  their  claims  upon  two  factors, 
namely,  the  effecting  of  economies  in  the  matter  of  operation,  overhead 
expense,  etc. ;  and  the  advantage  gained  in  the  matter  of  enlargement  of 
credit  for  the  issuance  of  securities  for  extensions  and  improvements. 

The  first  ground  appUes  especially  to  cases  of  several  small  plants  or 
of  plants  in  small  towns  in  the  same  locality,  while  the  second  appUes  to 
the  increased  borrowing  capacity  of  a  consolidation  as  compared  with  that 
possible  to  several  individual  plants.  A  consolidation  makes  the  basis 
of  security  much  broader  by  spreading  the  risk,  and  the  economies  in 
operating  and  overhead  expenses  which  may  be  possible  also  add  pro- 
portionately to  such  security.  Thus,  a  consoUdation  of  small  plants  may 
secure  from  investors  lower  rates  of  interest  than  would  be  possible  for 
the  same  plants  as  separate  units  and  thus  be  enabled  to  give  better 
service  to  all  consumers  involved.  Most  of  the  cases  involving  consolida- 
tion have  been  in  the  Second  District.  It  would  seem  that  in  the  First 
District,  consisting  of  Greater  New  York,  the  process  of  consoUdation 
had  been  carried  out  in  most  cases  before  the  enactment  of  the  PubUc 
Service  Commissions  Law. 

Two  Second  District  cases,  that  of  the  Lockport  Light,  Heat  and 
Power  Company,^  and  that  of  the  Watertown  Light  and  Power  Com- 
pany,^" stand  in  marked  contrast  and  serve  to  bring  out  some  important 
elements  of  public  advantage  or  disadvantage  involved  in  consohdation, 
and  also  the  difficulty  of  laying  down  any  rule  apphcable  to  all  cases, 
especially  in  a  period  of  transition  and  readjustment. 

The  Lockport  Light,  Heat  and  Power  Company,  a  newly  organized 
corporation,  had  been  formed  for  the  purpose  of  taking  over  the  property 
and  franchises  of  the  two  existing  electric  companies  and  carrying  on  the 
business  of  supplying  gas,  electric  light  and  power,  and  steam  heat  in 
Lockport  through  the  agency  of  a  single  corporation.  These  two  com- 
panies, which  had  been  engaged  in  bitter  competition  for  some  years 
past,  were  the  Lockport  Gas  and  Electric  Light  Company,  with  capital 
stock  of  $150,000,  and  outstanding  bonds  of  $300,000,  and  the  Economy 
Light,  Fuel  &  Power  Company  with  capital  stock  of  $250,000,  and  no 

•Matter  of  Application  of  the  Lockport  Light,  Heat  and  Power  Company, 
1  P.S.C.R.,  2nd  Dist.,  N.  Y.  12.    Decided  October  31,  1907. 

*'  Matter  of  Application  of  the  Watertown  Light  and  Power  Company  and  the 
Watertown  Gas  Light  Company  for  approval  of  a  consolidation,  1  P.S.C.R.,  2nd  Dist., 
N.  Y.  496.    Decided  March  9,  1909. 


216  CAPITAL  CONTROL  IN  NEW  YORK 

outstanding  bonds.    Thus  the  total  capitaKzation  of  the  two  companies 
was  $700,000. 

The  appHcant  company  proposed  to  issue  in  capital  stock  S600,000, 
and  in  bonds  $600,000,  making  a  total  of  $1,200,000.  This  would  have 
been  an  excess  of  $500,000  of  capitahzation  over  the  sum  of  the  capital 
stock  of  the  two  corporations  consohdated. 

When  Bonds  are  Capital  Stock 
The  companies  contended  that  the  prohibition  in  the  law  related  to 
an  increase  of  capital  stock  and  did  not  apply  to  bonded  indebtedness  in 
which  case  the  proposed  issue  would  have  been  technically  within  the 
law."  The  Commission,  however,  held  that  even  if  bonded  indebtedness 
was  not  mentioned  in  the  prohibition,  the  purpose  behind  the  statute 
was  perfectly  clear,  and  that  if  the  restrictions  as  to  increase  of  capitali- 
zation could  be  evaded  by  allowing  the  aggregate  amount  of  stock  of  the 
purchased  companies  to  remain  unchanged  while  at  the  same  time  a 
heavy  additional  burden  could  be  imposed  upon  the  community  through 
a  greatly  increased  issue  of  bonds,  then  the  provision  would  fail  in  its 
purpose.  It  was  quite  clear,  the  Commission  felt,  that  where  two  or 
more  gas  or  electric  companies  in  any  community  were  permitted  to  sell 
out  their  property  and  franchises  to  a  newly  formed  company,  approval 
of  such  sale  should  be  withheld,  unless  the  total  capitalization  of  the  new 
company,  whether  in  stocks  or  bonds,  issued  in  exchange  for  the  securi- 
ties of  the  old  companies,  did  not  exceed  the  total  capitalization  of  the 
purchased  companies.  And  therefore,  instead  of  the  $1,200,000  asked 
for  in  the  present  case,  the  Commission  held  that  only  $700,000,  the  total 
capitalization  of  the  vendor  companies,  should  be  allowed. 

Feasibility  of  Competition  in  Gas  or  Electric  Utilities 
The  municipal  authorities  of  Lockport  feared  that  after  the  consolida- 
tion took  place  the  prices  for  gas  and  electric  light  and  power  would  be 
raised.  The  applicant  company,  on  the  other  hand,  was  willing  to  file  a 
written  agreement  with  the  Commission  that  it  would  not  increase  the 
present  rate  of  schedules  without  the  consent  of  the  Commission.  This 
phase  of  the  matter,  however,  brought  before  the  Commission  a  question 
which  it  considered  of  great  importance  in  its  general  application,  and 

"The  law  says  on  this  point  (Public  Service  Commissions  Law,  sec.  69):  "Nor 
shall  the  capital  stock  of  a  corporation  formed  by  the  merger  or  consolidation  of  two 
or  more  other  corporations  exceed  the  sum  of  the  capital  stock  of  the  corporations  so 
consolidated,  at  the  par  value  thereof,  or  such  sum  and  any  additional  sum  actually 
paid  in  cash." 


CAPITAL  CONTROL  IN  NEW  YORK  217 

which  was  discussed  at  some  length.  "A  business  which  suppUes  to  a 
community  a  public  utility  like  gas,  or  electricity  for  light  or  power," 
the  Commission  observed,  *'is  one  in  which  free  and  full  competition 
between  two  companies  engaged  in  the  same  business  cannot  be  expected 
to  prevail  permanently." 

The  Commission  felt  that  the  Legislature  had  these  facts  in  mind  in 
framing  the  Public  Service  Commissions  Law,  inasmuch  as  the  provisions 
of  the  latter  allowed  such  wide  discretion  to  the  Commissions.  Consoli- 
dations, directly  or  indirectly,  are  forbidden  without  the  approval  of  the 
proper  Commission.  At  the  same  time,  however,  they  can  be  per- 
mitted, if,  in  the  opinion  of  the  Commission,  they  would  be  to  the  public 
advantage.  Abuses  of  such  permission  can  be  checked  through  the  plen- 
ary powers  with  which  the  Commissions  are  vested  in  the  fixing  of  stand- 
ards of  quality  in  the  various  services  rendered,  through  the  power  of 
fixing  maximum  prices,  and  of  ordering  such  improvements  in  manu- 
facture and  distribution  as  they  may  see  fit.  In  short,  the  Commission 
held,  the  Law  leaves  consolidations  to  the  discretion  of  the  Commissions, 
each  case  to  be  decided  upon  its  merits. 

The  Commission  was  convinced  that  the  reduction  of  the  capital 
to  the  aggregate  of  that  of  the  constituent  companies  and  the  stipula- 
tion in  the  transfer  that  the  prevailing  schedule  of  rates  should  not  be 
altered  without  the  consent  of  the  Commission  fully  protected  the  pubUc 
against  any  disadvantage,  while,  on  the  other  hand,  great  advantage 
might  be  expected  to  result  from  the  avoidance  of  duplicate  developments 
and  the  large  and  important  economies  that  could  be  effected  as  the 
result  of  such  combination. 

Feasibility  of  Competition  in  Gas  and  Electric  Utilities 
In  sharp  contrast  with  this  was  the  Watertown  case.^    Two  com- 
panies, the  Watertown  Light  &  Power  Company,  supplying  electricity, 
and  the  Watertown  Gas  Light  Company,  supplying  gas,  sought  approval 
for  a  consolidation. 

The  petition  was  strongly  opposed  by  the  city  of  Watertown,  which 
contended  that  such  a  consolidation  would  be  very  injurious  to  the 
financial  interests  of  the  city,  that  the  people  would  be  at  the  mercy  of  a 
monopoly,  and  that  in  case  an  effort  was  made  by  the  city  to  obtain 
cheaper  service  in  either  or  both  of  these  utiKties  there  should  be  no 

"  Matter  of  Application  of  the  Watertown  Light  and  Power  Company  and  the 
Watertown  Gas  Light  Company,  1  P.S.C.R.,  2nd  Dist.,  N.  Y.,  496,  Decided  March 
9, 1909. 


218  CAPITAL  CONTROL  IN  NEW  YORK 

merger  which  would  confound  the  capitaHzation  of  the  electric  company 
with  that  of  the  gas  company. 

In  the  view  of  the  Commission,  the  case  resolved  itself  into  a  broad 
question  as  to  whether  the  interests  of  a  community  would  be  best  served 
in  the  long  run  by  the  merger  of  two  companies,  one  furnishing  gas  and 
the  other  electricity.  In  this  case  there  would  be  a  consoHdation  of  all 
the  light-supplying  companies  in  Watertown. 

The  applicant  companies  laid  great  stress  upon  the  decision  of  the 
Commission  in  the  Lockport  case,  just  discussed,  in  which  the  merger  of 
two  hghting  corporations  had  been  approved.  In  that  case,  however, 
one  company  supplied  electricity,  and  the  other  both  gas  and  electricity. 
That  is,  both  companies  involved  in  the  consolidation  already  supplied 
electricity,  and  the  principal  reasons  given  for  sanctioning  the  merger 
rested  upon  the  fact  that  the  two  companies  were  already  engaged  in  the 
same  kind  of  business. 

In  the  opinion  in  that  case  emphasis  had  been  laid  upon  the  econo- 
mies possible  in  the  elimination  of  duplicate  equipment,  etc.,  and  especial- 
ly, upon  the  similarity  of  the  businesses  of  the  two  companies  proposing 
to  merge.  The  case  under  discussion,  however,  involved  two  companies 
supplying  a  dijBFerent  service,  and,  therefore,  the  reasoning  in  the  Lockport 
case  did  not  apply. 

The  question  here  at  stake  was  whether  two  companies,  supplying 
different  public  utilities  should  be  allowed  to  merge.  Generally  speaking, 
the  Commission  reasoned,  it  was  impracticable  that  there  should  be 
entire  freedom  for  every  individual  or  corporation  that  saw  fit  to  estab- 
lish a  gas  company,  or  run  a  line  of  street  cars.  Such  utilities  would  in- 
evitably be  restricted,  and  efforts  to  force  competition  often  resulted 
in  such  undesirable  duplications  of  equipment  as  had  existed  in  Lock- 
port,  since  pubhc  service  corporations  were  essentially  monopolistic. 

But  this  case  did  not  show  any  positive  advantage  to  the  public, 
for  the  merger  of  a  gas  corporation  and  an  electric  corporation,  the  Com- 
mission held,  "does  not  offer  the  advantages  of  eliminating  unnecessary 
duplication  of  plants  and  distributing  systems;  nor  does  it,  as  a  result 
of  such  elimination  and  the  consequent  avoidance  of  economic  waste, 
hold  forth  the  probabilities  of  better  service  and  fairer  prices. "  While 
each  case  submitted,  it  was  further  held,  should  be  decided  upon  its  own 
prevailing  conditions  and  merits,  yet  in  a  proposed  consolidation  of  two 
companies  practically  controlling  the  service  of  two  naturally  competitive 
utilities,  such  as  gas  and  electric  light,  and  in  whose  continued  competi- 
tition  there  had  existed  possibilities  of  pubhc  advantage  in  the  matter 


CAPITAL  CONTROL  IN  NEW  YORK  219 

of  lower  prices  and  better  service,  the  companies  involved  must  ofifer 
proof  of  some  direct  public  benefit  flowing  from  the  consolidation  which 
would  more  than  counterbalance  the  natural  objections.  The  applica- 
tion was  accordingly  denied. 

Actual  Conditions  May  Force  Abandonment  of  General  Principles 

A  further  hearing  was  granted  for  argument,  this  time  upon  the  merits 
of  the  case.  Theory  was  largely  abandoned,  and  the  Commission  actually 
reversed  itself,  basing  its  approval  upon  conditions  peculiar  to  the 
case. 

The  practical  identity  of  ownership  had  been  mentioned  in  the  original 
application,  but  was  here  emphasized.  It  was  shown  that,  whatever 
the  advantages  to  the  public  of  keeping  the  two  companies  apart,  they 
were  not  separate,  had  not  been  for  some  years,  and  that  there  was  no 
power  in  the  Commission  to  make  them  so.  The  stock  of  both  com- 
panies was  owned  by  one  individual,  and  had  been  consolidated  accord- 
ing to  every  legal  requirement  except  the  approval  of  the  Commission. 

The  case  presents  a  rather  humorous  aspect,  as  the  attempts  of  the 
petitioners  to  ignore  the  jurisdiction  of  the  Commission  had  resulted  in 
casting  so  much  doubt  upon  the  legal  status  of  the  company  that  it  was 
impossible  for  it  to  float  bonds  for  urgently  needed  extensions,  at  least 
at  anything  like  a  reasonable  rate  of  interest.  This  affected  both  the  old 
and  the  proposed  new  securities. 

If  the  approval  of  the  Commission  to  the  proposed  consolidation 
had  been  secured  before  the  filing  of  the  agreement  of  consolidation  in  the 
office  of  the  Secretary  of  State,  the  status  of  the  companies  would  not  have 
been  open  to  question.  Or  if  the  agreement  had  not  been  filed,  the  legal 
status  of  the  consolidation  would  have  been  definite.  The  Business 
Corporations  Law  stated  that  upon  such  filing  "  thereupon^^  such  corpora- 
tions shall  be  merged  into  the  new  corporation, "  while  the  Commission 
held  that  this  provision  was  modified  by  the  Public  Service  Commissions 
Law  to  the  extent  of  requiring  its  approval  in  addition.  Hence,  without 
a  final  court  decision,  the  question  was  whether  the  companies  were  or 
were  not  consohdated,  as  the  agreement  had  been  duly  filed  in  the  office 
of  the  Secretary  of  State  but  the  approval  of  the  Commission  had  not 
been  obtained.  If  securities  were  issued  in  the  names  of  the  old  corpora- 
tions there  was  doubt  as  to  whether  there  was  not  a  legal  consohdation; 
and  if  issued  in  the  name  of  the  (consolidated?)  corporation  there  was 
likewise  doubt  as  to  whether  there  was  a  legal  consolidation.    As  a  result 

^  Italics  not  in  original. 


220  CAPITAL  CONTROL  IN  NEW  YORK 

of  this  dilemma  securities  could  not  be  favorably  placed,  and  the  Com- 
mission was  appealed  to  for  aid,  as  extensions  were  urgently  needed  for 
the  proper  serving  of  the  public.  Because  of  the  technical  predicament 
in  which  the  companies  had  placed  themselves  the  Commission  decided 
to  permit  the  consolidation.  Where  a  decided  change  in  law  conflicts 
with  preexisting  conditions,  as  the  Commission  observed,  it  is  almost 
impossible  to  maintain  a  clear-cut  theoretical  position. 

Consolidation  of  Small  Railroads  for 
Broader  Credit  Basis 

The  New  York  Central  Raihoad  wished  to  consolidate  with  itself 
three  small  railroads  which  it  already  had  under  lease:  The  Syracuse 
Geneva  and  Corning,  the  Fall  Brook  Railway  Company,  and  the  Pine 
Creek  Railway  Company.  ^^  The  properties  of  the  several  companies 
were  neither  parallel  nor  competing  one  with  the  other,  and  if  consolidated 
would  form  a  continuous  line. 

The  first  company  had  outstanding  capital  stock  to  the  amount  of 
$1,325,000,  the  third  to  the  amount  of  $1,000,000,  making  a  total  of 
$2,325,000.  The  second  company  had  stock  to  the  amount  of  $5,000,000, 
a  total  for  the  three  of  $7,325,000.  The  capital  stock  of  the  proposed 
consolidation  was  also  to  be  $7,325,000,  but  was  to  be  divided  into 
$2,325,000  of  common  stock  and  $5,000,000  of  preferred  stock,  preferred 
both  as  to  dividends  and  distribution  of  assets,  and  entitled  to  4  per  cent 
cumulative  dividends.  The  preferred  stock  was  to  be  exchanged  for  the 
existing  stock  of  the  second  company  named,  the  Fall  Brook  Company, 
for  the  reason  that  it  had  no  mortgage  or  funded  indebtedness  upon  its 
property,  which  the  other  two  roads  did  have.  The  three  roads  were 
already  under  lease  to  the  New  York  Central,  which  had  been  paying  3}^ 
per  cent  to  the  stockholders  of  the  Fall  Brook  Company.  Under  the  new 
arrangement  it  would  pay  them  $200,000  annually  instead  of  $175,000. 
The  leases  of  the  other  two  companies  with  the  New  York  Central 
contained  provisions  by  which  they  would,  at  the  request  of  the  lessee, 
consent  to  the  issuance  of  bonds  secured  by  mortgage  for  the  purpose 
of  improvements  and  extensions,  etc.  The  lease  with  the  Fall  Brook 
contained  no  such  provision,  its  property  had  no  mortgage  thereon,  and 
none  could  be  so  placed  without  the  consent  of  the  stockholders.  But 
under  the  proposed  consohdation  agreement  the  consolidated  company 

"  Matter  of  Application  of  Syracuse,  Geneva  and  Corning  Railway  Company  and 
Fall  Brook  Railway  Company  for  permission  to  consolidate,  etc.,  2  P.S.C.R.,  2nd 
Dist.  N.  Y.,  18.    Decided  April  7,  1909. 


CAPITAL  CONTROL  IN  NEW  YORK  221 

was  authorized  to  place  upon  its  unincumbered  property  a  mortgage  to 
the  extent  of  $10,000,000,  which  mortgage  and  the  indebtedness  secured 
thereby  would  become  a  lien  upon  the  property  superior  to  the  rights 
of  the  stockholders.  For  this  reason  the  stockholders  demanded  the 
concession  above  outlined. 

The  New  York  Central,  by  virtue  of  the  new  arrangement,  would 
be  enabled  to  place  a  mortgage  upon  the  properties  as  a  whole.  As  it 
seemed  likely  that  bonds  of  the  Central,  secured  by  a  mortgage  upon  its 
entire  properties  could  be  sold  easier  and  at  a  better  price  than  would 
otherwise  be  possible,  permission  to  consolidate  was  granted.  ^^ 

Physical  Valuation  of  Consolidated 
Properties  as  One  Test 

In  the  proposed  consohdation  of  the  Palmyra  Gas  and  Electric 
Company,  the  Newark  (N.  Y.)  Gas  Light  and  Fuel  Company,  the  New 
Light  Heat  and  Power  Company,  the  Lyons  Gas  Light  Company,  and 
the  Wayne  County  Electric  Company ,^^  the  Commission  resorted  to  a 
physical  valuation  of  the  properties,  although  the  Pubhc  Service  Com- 
missions Law  does  not  authorize  this  as  a  test. 

The  plan  of  capitalization  submitted  by  the  applicant  for  leave  to 
consolidate  consisted  of: 

Stock  $200,000 

Bonds  for  refunding  206,000 

Bonds  for  discharging  $96,500  of  obligations  to  be  sold  at  90  107,000 

Bonds  to  defray  cost  of  proposed  improvements  ($118,500)  to  be  sold  at  90     131,500 


Total  $644,500 

Against  this  there  was  an  estimated  value  by  the  Commission  of  $400,000, 
plus  the  cost  of  proposed  improvements,  $118,500,  or  a  total  of  $518,500. 
An  allowance  for  possible  discount  upon  both  new  and  old  bonds  for  the 
purpose  of  comparing  proposed  capitalization  with  value,  reduced  the 
total  of  $644,500  to  $579,450,  leavmg  capitaHzation  of  $60,900  in  excess 
of  the  estimated  value. 

"  See  also  Matter  of  Application  of  the  New  York  Central  and  Hudson  River 
Railroad  Company  to  merge  with  itself  six  small  susidiary  roads,  3  P.S.C.R.,  2nd  Dist., 
N.  Y.,  822.    Decided  April  9, 1913. 

See  also  Matter  of  Application  of  the  Empire  Gas  and  Electric  Company,  3 
P.S.C.R.,  2nd  Dist.,  N.  Y.,  9.     Decided  July  12,  1911. 

"  Matter  of  Application  of  Palmyra  Gas  and  Electric  Company,  etc.,  etc., 
2  P.S.C.R.,  2nd  Dist.,  N.  Y.,  500.     Decided  June  22, 1910. 


222  CAPITAL  CONTROL  IN  NEW  YORK 

Allowance  for  Intangibles 

It  was  held  by  the  Commission  that  against  such  difference,  allow- 
ances must  be  made  for  intangibles  entering  into  the  old  capitahzation, 
including  organization,  fair  promotion  expenses,  and  any  items  of 
obsolescence  not  fairly  chargeable  to  depreciation,  which  the  condition  of 
each  company's  revenues  might  not  have  permitted  to  be  deducted  from 
income.  This  would  also  include  any  errors  against  the  companies  which 
might  exist  in  the  general  estimate  of  present  physical  value. 

The  real  purpose  of  such  a  comparison  in  a  case  of  proposed  consoH- 
dation,  the  Commission  held,  was  to  enable  it  to  act  with  understanding, 
and,  if  warranted  thereby,  prevent  a  consolidation  presenting  large 
capitalization  and  relatively  small  property  value.  If,  however,  the 
Commission  had  vetoed  the  plan  upon  such  grounds,  it  is  doubtful,  in 
the  light  of  the  Third  Avenue  decision,  whether  the  court  would  have 
sustained  its  action,  as  the  law  does  not  authorize  value  of  property  as  a 
test  for  permission  to  consolidate.  It  was  felt  that  the  balance  of  pro- 
posed capitalization  over  actual  physical  value  might  be  fairly  set  off 
against  the  intangibles  and  other  matters  mentioned,  and  consolidation 
was  permitted  upon  the  basis  of  the  total  applied  for,  namely,  $644,500. 

Consolidation  vs.  Reorganization 
The  Commission  emphasized  the  fact  that  this  was  a  proposed  capi- 
talization of  the  properties  of  existing  companies,  and  was  quite  distinct 
in  the  matter  of  allowable  capitalization  from  a  case  where  approval  of 
new  capitalization  was  sought  for  a  new  company  taking  over  a  property 
sold  under  judicial  decree. 

The  question  arises  as  to  the  distinction  between  the  capitalization 
of  existing  companies,  pursuant  to  a  plan  of  consolidation  or  merger, 
and  capitalization  pursuant  to  a  plan  of  reorganization.  The  mere  fact 
of  reorganization,  of  course,  indicates  that  something  is  radically  wrong, 
since  a  company  in  such  a  case  has  not  been  able  to  meet  interest  upon 
its  bonded  debt,  while  the  companies  involved  in  a  consolidation  plan 
may  be  meeting  all  charges  and  paying  prosperous  dividends  upon  stock. 
Besides,  the  issue  of  securities  in  connection  with  consoHdation  is  largely 
in  the  nature  of  an  exchange  of  the  securities  of  the  existing  companies 
for  those  of  the  proposed  consolidated  company,  whereas  in  a  reorganiza- 
tion there  is  theoretically  a  wiping  out  of  old  securities,  and  a  starting 
afresh  with  new.    This  does  not  say,  however,  that  in  certain  cases,  the  I 

securities  of  companies  involved  in  a  consolidation  plan  may  not  be  in 
excess  of  the  value  of  the  property.    Theoretically,  therefore,  there  is 


CAPITAL  CONTROL  IN  NEW  YORK  223 

no  reason  why  the  test  of  the  value-of-the-property  should  not  apply  also 
to  consolidations  and  mergers,  although  the  PubHc  Service  Commissions 
Law  does  not  provide  specifically  for  such  a  test. 

The  fact  is  that  the  Commissions  have  seen  fit  in  several  cases  to  use 
a  valuation  of  the  physical  property  as  one  test  in  judging  of  the  property 
of  a  proposed  consoHdation.  They  have  evidently  gone  upon  the 
assumption,  as  they  did  in  reorganization  cases  prior  to  the  Third  Avenue 
decision,  that  the  general  spirit  of  the  law  gave  them  the  power  to  use 
the  value  of  the  property  as  a  test.  This  assumption,  as  regards  con- 
sohdations,  has  never  been  tested  in  the  courts,  as  it  was  in  the  case  of 
reorganizations.  What  the  judicial  interpretation  of  this  point  would 
be  is,  of  course,  problematical. 

Basis  of  Permission  to  Consolidate 

The  chief  purposes  of  this  consolidation,  as  claimed  by  the  apphcants, 
were  to  introduce  economies  in  operation  by  the  production  of  gas  and 
electricity  at  central  points  and  by  the  transmission  from  the  producing 
plant  to  the  various  locaUties,  and  to  provide  a  broader  basis  for  the 
issuance  of  bonds  for  needed  extensions  than  could  be  obtained  by  the 
separate  companies. 

Eight  reasons  were  found  by  the  Commission  to  warrant  the  pro- 
posed consoHdation,  as  follows: 

(1)  The  present  restricted  ability  to  render  good  service  by  several  of  the  com- 
panies, but  good  and  full  service  under  one  company. 

(2)  Inability  of  the  separate  companies  to  market  securities  for  refunding  and 
improvements  at  fair  prices,  but  apparent  fair  sale  of  bonds  by  a  consolidated  com- 
pany. 

(3)  Present  high  percentage  of  operating  cost  to  gross  revenue. 

(4)  Reduction  of  operating  expenses  through  centralisation  of  production. 

(5)  Reduction  of  overhead  or  administration  cost,  and  greater  efl&ciency  of 
superintendence  through  emplojmaent  of  capable  management  under  salaries  larger 
per  man  but  less  in  the  aggregate  than  the  combined  salaries  heretofore  paid. 

(6)  Increased  gross  revenue  from  extensions  and  good  service. 

(7)  Greater  ability  to  render  necessary  service  at  lower  rates. 

(8)  The  proposed  consolidation  would  be  distinguished  from  mere  consolidation 
of  separately  operated  companies  by  the  fact  that  production  was  to  be  centralized 
and  the  operations  were  to  be  cormected,  except  as  separate  operation  might  be  neces- 
sary in  case  of  breakdown  in  a  central  producing  station. 

Distinction  Between  Small  Towns  and  Cities  in  Consolidation 
of  Gas  and  Electric  Utilities 
The  objection  to  the  consolidation  of  gas  and  electrical  companies, 
the  Commission  held,  did  not  apply  with  great  force  in  this  case,  because 


224  CAPITAL  CONTROL  IN  NEW  YORK 

in  small  towns  or  villages  the  consolidated  company  in  order  to  increase 
its  revenues  must  seek  to  develop  both  branches  of  its  business  in  all 
practicable  ways.  On  the  other  hand,  in  cities  of  considerable  size 
the  consolidated  company  might  well  favor  the  extension  of  its  electric 
lines  as  against  its  gas  mains,  since  the  former  may  ordmarily  be  done 
more  cheaply,  and  under  large  demand,  the  electric  service  might  be 
found  more  profitable.^^  In  such  a  case  the  result  would  be  to  drive 
consumers  of  gas  to  use  electricity  because  of  inadequate  service  for  gas. 

Permission  to  Consolidate  Conditioned  Upon 
Rectifying  of  Accounts 

The  appHcation  for  leave  to  consolidate  of  the  Poughkeepsie  Light 
Heat  and  Power  Company,  the  Newburgh  Light  Heat  and  Power  Com- 
pany, and  the  Hudson  Counties  Gas  and  Electric  Company,^^  was  simi- 
larly based  upon  economies  of  production  and  an  enlarged  credit  basis. 

An  examination  of  the  properties  by  the  Commission's  engineer  and 
an  investigation  of  the  books  of  the  apphcants  showed  that  each  of  the 
companies  was  in  good  financial  condition,  and  that  none  of  the  proper- 
ties was  in  such  condition  physically  or  financially  that  it  would  be  likely 
to  diminish  the  abihty  of  the  consolidated  company  to  give  adequate 
service  at  reasonable  rates.  It  appeared  that  the  common  stock  of  each 
company  could  be  properly  exchanged  share  for  share  for  that  of  the 
consohdated  company.  The  value  of  each  of  the  two  larger  properties 
was  in  excess  of  their  capitalization. 

On  the  other  hand,  in  all  three  companies,  the  examination  showed 
that  under  the  accounting  system  used  prior  to  the  prescribing  of  a  uni- 
form system  by  the  Commission,  the  Fixed  Capital  Accounts  had  not 
been  sufficiently  credited  in  the  past  with  retirements  of  property.  Also 
in  many  instances  replacements  had  been  charged  to  fixed  capital.  Ex- 
aminations by  the  Commission  showed  that  considerable  amounts  in  each 
case  should  be  written  off  from  the  Fixed  Capital  Account,  and  that 
various  other  accounting  adjustments  should  be  made,  as  it  would  be 
impossible  to  carry  out  such  revision  after  a  consolidation.  The  Commis- 
sion felt  that  the  financial  statements  warranted  the  consoHdation  if  the 

"  See  reference  to  so-called  Douglaston  case,  where  the  company  in  refusing  to 
extend  its  gas  mains  to  Douglaston,  based  its  refusal  partly  upon  the  fact  that  con- 
sumers in  that  place  were  already  supplied  with  electricity.     See  page  242. 

"  Matter  of  Application  of  Poughkeepsie  Light,  Heat  and  Power  Company,  etc., 
for  leave  to  consolidate,  2  P.S.C.R.,  2nd  Dist.,  N.  Y.,  644.    Decided  April  11,  1911. 


CAPITAL  CONTROL  IN  NEW  YORK  225 

proper  amounts  were  written  off,  and  as  a  pre-requisite  for  leave  to  con- 
solidate, the  following  conditions  were  stipulated  by  the  Commission: 

(1)  The  writing  o£f  of  proper  amounts  from  Fixed  Capital  accounts. 

(2)  The  adoption  of  a  revised  balance-sheet  submitted  by  the  Commission  for 
the  consolidated  company. 

(3)  The  making  by  the  new  company  of  an  inventory  and  appraisal  of  the  per- 
manent assets  to  be  included  in  Fixed  Capital  account,  on  a  basis  suggested  by  the 
Commission.^* 

(4)  The  maintaining  by  the  consolidated  company  of  separate  accounts  of  its 
business  as  to  each  locality  served  in  order  that  the  property  employed,  income  re- 
ceived, and  expenses  incurred  in  such  business  for  each  locality  may  be  readily  as- 
certained. 

Upon  these  conditions  it  was  felt  that  pubhc  interest  would  be  pro- 
moted, and  leave  was  granted  to  consohdate.  Such  an  arrangement  would 
not  eliminate  over-capitalization,  but  would  segregate  it  so  that  any 
additions  of  that  nature  would  stand  out  plainly. 

"  Fixed  Capital  account  was  to  be  divided  into  Tangibles  and  Intangibles.  These 
two  classes  were  to  be  made  up  according  to  the  following  definitions  submitted  by  the 
Commission: 

I  Tangibles: 

(a)  Tangible  physical  property  used,  useful  and  necessary  in  rendering  the 
service.  The  appraisal  thereof  should  be  made  on  a  basis  of  reproductive  cost  less 
deterioration  to  present  condition,  plus  legitimate  related  intangibles  pertaining  to 
the  creation  of  the  operating  faciliites,  said  intangibles  appearing  separately  as  a  per 
centum  of  the  reproductive  cost. 

(b)  Tangible  physical  property  not  now  used,  useful  and  necessary  in  rendering 
the  service.  The  appraisal  thereof  should  be  made  on  the  basis  of  "going  value"  for 
such  elements  of  value  as  pertain  to  the  operating  facilities.  Definition:  "Going 
value"  is  that  value  which  would  be  placed  on  unused  property  consisting  of  several 
elements  of  value  presumably  adaptable  to  the  ostensible  purposes  of  the  corporation. 

All  the  foregoing  shall  be  subdivided  and  charged  into  the  appropriate  accounts 
as  designated  in  the  definitions  of  accounts  for  fixed  capital  provided  in  the  accounting 
orders  for  gas  and  electrical  corporations. 

II  Intangibles 
The  difference  between  the  amount  found  for  tangible  physical  property,  as 
hereinbefore  defined,  and  the  amount  stated  in  the  Fixed  Capital  account.  Said 
difference  should  appear  in  the  Fixed  Capital  Account  as  "Other  Intangible  Capital." 
Such  inventory  and  appraisal  shall  be  prepared  in  reasonable  detail  under  direction  of 
the  Commission,  submitted  to  the  Commission  for  its  approval,  and  when  so  approved 
should  be  retained  by  the  corporation  as  a  part  of  its  permanent  records,  the  same 
being  the  basis  for  correcting  the  books  of  the  corporation  as  to  the  accounts  for  fixed 
capital. 


226  CAPITAL  CONTROL  IN  NEW  YORK 

Denial  of  Permission  to  Consolidate  Based  Upon  Absence  of 

Proof  That  Securities  to  be  Refunded  Represented 

Capital  Expenditures 

In  a  recent  consolidation  case  in  the  First  District,^"  the  applications 
were  denied  upon  the  general  grounds  that  the  proposed  plan  of  re- 
capitalization was  inimical  to  the  public  interest  and  contrary  to  law  and 
sound  finance.  The  Richmond  Light  and  Railroad  Company  and  the 
Staten  Island  Midland  Railway  Company  petitioned  for  consent  to 
consolidate  and  to  issue  securities.  The  corporations  were  already 
interlocking  and  the  Commission  conceded  that  a  consolidation  would 
serve  to  bring  the  legal  organization  into  closer  correspondence  with  the 
actual  facts  and  would  enlarge  the  credit  of  the  companies  so  that  im- 
provements and  extensions  could  be  better  provided  for. 

Under  the  proposed  plan  the  Staten  Island  Midland  Raihoad  Com- 
pany wished  approval  to  increase  its  authorized  capital  stock  from 
$1,000,000  to  $2,350,000,  the  increase  of  $1,350,000  to  be  6  per  cent  cu- 
mulative preferred  stock.  Of  this,  $1,000,000  was  to  be  issued  to  dis- 
charge 5  per  cent  thirty-year  bonds  due  in  1926,  of  the  par  value  of 
$1,000,000,  and  matured  and  unpaid  coupons  (from  1910  to  1916)  due 
upon  said  bonds  to  the  amount  of  $350,000. 

The  Commission  held  that  there  was  a  decided  advantage  to  be 
gained  by  substituting  stock  for  bonds,  as  the  stock  would  be  free  from 
the  liability  of  foreclosure  upon  default  of  interest.  There  was,  however, 
a  20  per  cent  increase  in  interest  charge.  But  the  most  important 
requisite  in  such  a  change  is  proof  that  the  original  proceeds  were  ex- 
pended upon  capital  as  distinct  from  operating  account.  Such  proof  the 
company  failed  to  present. 

The  Pubhc  Service  Commissions  Law,  while  frowning  upon  the 
issuance  of  securities  for  other  than  strictly  capital  account,  does  permit 
the  Commission,  in  its  discretion,  to  authorize  the  issue  of  bonds  or  short 
term  notes  for  purposes  chargeable  to  operating  expense  or  to  income. 
This  is  sometimes  done  as  an  emergency  measure,  and  is  usually  per- 
mitted upon  condition  that  such  issues  shall  be  amortized  as  rapidly  as 
possible.  Such  a  course  would  be  justified  where  a  company  was  faced 
with  the  alternative  of  a  receivership  and  yet  showed  a  reasonable  pros- 
pect of  being  able  to  pay  amortization  charges  upon  a  bond  issue  if 
allowed  to  continue  in  business.     But  the  issue  of  stock  upon  such  a  basis 

*°  Matter  of  the  Applications  of  the  Richmond  Light  and  Railroad  Company  and 
the  Staten  Island  Midland  Railway  Company,  8  P.S.C.R.,  1st  Dist.,  N.  Y.,  111. 
Opinion  adopted  May  9, 1917. 


CAPITAL  CONTROL  IN  NEW  YORK  227 

is  expressly  forbidden,  as  this  would  constitute  a  permanent  capitaliza- 
tion of  a  charge  which  at  best  should  be  of  temporary  duration. 

Of  the  preferred  stock  proposed  to  be  issued  by  the  Staten  Island 
Midland  Railway  Company,  $350,000  was  to  be  used  to  refund  a  like 
amoimt  of  unpaid  interest  coupons.  The  appHcant  claimed  that  these 
constituted  "property,"  and  that  securities  could  properly  be  issued  for 
them  imder  the  "acquisition  of  property"  clause  of  Section  55  of  the 
Pubhc  Service  Commissions  Law.  The  Commission  held  that  the  *  ex- 
tinguishment by  one  of  his  own  debt  is  not  an  acquisition  of  property. " 
Such  a  theory,  it  was  held,  could  logically  be  extended  to  the  capitaliza- 
tion of  all  operating  charges  by  first  issuing  for  them  evidences  of  in- 
debtedness and  then  discharging  same  by  an  issue  of  stock  or  bonds. 

As  to  the  purpose  for  which  the  proceeds  of  the  obhgations  involved 
in  this  case  had  originally  been  expended,  no  proof  was  oiGfered,  but  it 
was  admitted  in  the  petition  that  there  was  included  taxes,  interest,  and 
other  operating  charges,  together  with  an  indefinite  amount  of  replace- 
ments. As  the  poHcy  of  the  Commission  was  to  permit  capitalization 
of  replacements  only  under  conditions  of  rapid  amortization,  the  petition 
was  denied  without  prejudice  to  a  subsequent  plan  eliminating  the 
objectionable  features  of  the  present  one. 


CHAPTER  XX 

Stock  Transfers 

The  provisions  of  the  original  law  of  1907  covered  railroad,  street- 
railroad,  gas  and  electric  corporations,  and  provided  that  a  public  utihty 
corporation  should  not  acquire,  directly  or  indirectly,  the  securities  of  a 
like  corporation,  except  with  the  authority  of  the  Commission;  that 
except  where  stock  should  be  transferred  or  held  for  the  purpose  of  col- 
lateral security,  and  this  only  with  the  consent  of  the  Commission,  no 
stock  corporation  of  any  description,  domestic  or  foreign,  other  than  a 
public  utility  corporation  of  the  kind  vmder  consideration,  should  acquire 
or  hold  more  than  10  per  cent  of  the  total  capital  stock  of  any  other  such 
public  utility  organized  under  the  laws  of  New  York  State.  Thus  stock 
of  a  railroad  or  street  railroad  corporation  in  excess  of  10  per  cent  of  the 
total  could  be  held  only  by  a  railroad  or  street  railroad  corporation. 
Nothing  in  the  act  was  to  be  construed  as  preventing  the  holding  of 
stock  heretofore  lawfully  acquired,  but  any  contract  or  transfer  by  or 
through  any  person  or  corporation  to  any  corporation,  in  violation  of  any 
provision  of  this  chapter,  should  be  null  and  void. 

An  amendment  added  in  1910  made  an  exception  in  the  case  of  a  cor- 
poration which  aheady  held  a  majority  of  the  capital  stock  of  a  public 
utility.  Such  a  corporation  could,  without  the  consent  of  the  Commis- 
sion, acquire  the  remainder  or  any  portion  thereof. 

Another  1910  amendment  made  provision  that  where  stock  so  held 
should  be  surrendered  pursuant  to  a  reorganization  a  proportionate 
amount  of  stock  of  the  new  corporation  could  be  acquired  and  held. 
And  in  the  same  connection  there  was  added  in  1914  a  further  amend- 
ment, applying  only  to  railroads  and  street  railroads,  as  follows:  "... 
subject  to  approval  by  the  Commission  (the  acquiring  or  holding  of  a 
proportionate  amount)  of  any  further  issue  of  stock,  provided  such 
further  issue  does  not  increase  the  proportion  of  stock  held  by  such  stock 
corporation. " 

In  1911  an  amendment  to  the  railroad  section  included  electrical 
corporations  along  with  railroads  and  street  railroads  as  corporations 
which  could  not  acquire  or  hold  stock  in  like  corporations  without  the 
consent  of  the  Commission,  and  of  whose  stock  not  more  than  10  per 
cent  could  be  held  by  any  corporation  other  than  such  a  public  utihty 
corporation.  This  change  was  occasioned  by  the  growing  importance 
of  electricity  as  a  motive  power,  and  the  frequency  with  which  railroads 


CAPITAL  CONTROL  IN  NEW  YORK  229 

and  street-railroads  purchased  power  in  large  quantities  from  electrical 
corporations. 

At  the  same  time  an  amendment  was  added  to  the  gas  and  electric 
section  prohibiting  the  acquisition  or  holding  of  the  stocks  or  bonds  of 
any  electrical  corporation  by  a  street  railroad  corporation.  The  parallel 
sections  applying  to  telegraph  and  telephone  corporations  and  to  steam 
heating  corporations,  are  substantially  identical  and  were  added  in  their 
entirety  as  part  of  the  articles  in  which  they  occur,  the  former  in  1910 
and  the  latter  in  1913. 

Principal  Questions  Involved  in  Transfers  of  Stock 

In  all  cases  involving  transfers  of  stock,  the  question  of  advantage 
or  disadvantage  to  the  general  public  has  been  given  most  weight, 
especially  where  such  transfer  meant  the  absorption  of  a  competing  com- 
pany or  the  extension  of  monopoly  influence  into  new  territory.  Other 
questions  have  been  the  proper  protection  of  minority  stockholders,  and 
the  reasonableness  of  the  prices  to  be  paid  for  the  stock  acquired.  As  in 
many  cases  the  stocks  have  been  unlisted,  the  problem  has  been  difficult 
of  attack. 

As  with  consoHdations,  the  treatment  of  cases  of  stock  transfer  shows 
Httle  development  of  trend.  In. fact  the  anomalous  conditions  conse- 
quent upon  such  a  decided  change  of  administrative  control  as  was 
represented  in  the  enactment  of  the  Public  Service  Commissions  Law 
seemed  to  make  a  settled  policy  impracticable  for  some  years  at  least 
until  the  necessary  readjustments  had  had  a  chance  to  work  out.  This 
was  especially  true  in  the  Second  District  and  in  more  than  one  case 
the  Commission  realized  that  in  endeavoring  to  stick  to  principle,  it 
would,  in  effect,  be  depriving  a  community  of  facilities  and  service 
urgently  needed.  The  handling  of  cases  of  stock  transfers  has,  there- 
fore, constituted  a  period,  largely,  of  readjustment  and  a  resume  of  the 
important  cases  may  seem  somewhat  haphazard. 

Dissolution  of  Holding  Companies  Made  Advisable  by  the 
Public  Service  Commissions  Law 

The  first  important  case  of  stock  transfer  in  the  Second  District 
involved  a  typical  holding  company,  and  showed  in  an  interesting  way 
the  effect  of  the  change  in  law  as  compared  with  the  free  and  easy  methods 
previously  pursued.    The  Mohawk  Valley  Company  was  a  holding  com- 


230  CAPITAL  CONTROL  IN  NEW  YORK 

pany  which  owned  controlling  interests  in  the  stocks  of  nine  street-rail- 
road and  several  electric  lighting  corporations.^ 

Prior  to  the  enactment  of  the  Public  Service  Commissions  Law, 
such  corporations  as  the  Mohawk  Valley  Company  could  legally  acquire 
and  hold  stock  of  railroad  and  hghting  companies  to  an  unlimited  amount. 
Its  operations  had  been  conducted  upon  the  assumption  that  this  right 
involved  the  control  and  management  of  the  companies  in  which  it 
owned  a  majority  of  the  stock,  and  financing  had  been  carried  on  upon 
this  basis.  While  it  was  still  lawful  for  the  Mohawk  Valley  Company 
to  retain  the  ownership  of  the  stocks  which  it  then  held,  the  provisions 
of  the  law  would  interfere  seriously  with  the  future  financing  and  develop- 
ment of  the  properties. 

The  New  York  Central  Railroad,  the  applicant  corporation  in  this 
case,  and  also  the  owner  of  60  per  cent  of  the  stock  of  the  Mohawk 
Valley  Company,  submitted  a  plan  of  readjustment  which  involved  a 
series  of  complicated  changes  in  the  holding  of  stocks  and  in  the  amount 
thereof  of  the  various  companies  concerned  in  the  transaction.  The 
purpose  was  a  change  in  the  ownership  of  the  stocks,  to  the  end  that 
the  financial  operations  of  the  various  companies  might  be  placed  in 
harmony  with  the  existing  law. 

To  this  end  it  was  proposed  to  do  away  with  the  existing  holding 
company  and  unite  all  the  street  railway  properties  into  one  (street- 
railway)  company  by  means  of  consohdation  and  merger  where  practic- 
able and,  where  not,  by  stock  ownership  through  transfer  of  stock;  thus,  a 
subsidiary  of  the  Mohawk  Company,  an  active  company,  and  a  street 
railroad  company,  was  also  to  serve  in  the  holding  company  capacity 
previously  occupied  by  the  Mohawk  Company.  This  step,  if  approved, 
would  place  all  these  intercompany  holdings  in  harmony  with  the  law. 
The  transfers  involved  in  the  plan  were  approved  by  the  Commission  as 
the  best  solution  available. 

Reasonableness  of  Price  for  Stocks  Transferred 

In  a  case  of  transfer  of  securities,  especially  where  they  are  practically 

unlisted,  and  where  the  records  of  original  investment  are  deficient  or 

lacking,  the  question  of  the  proper  price  to  be  paid  is  a  difficult  one  unless 

recourse  is  had  to  a  valuation  of  the  physical  property.    In  the  discus- 

1  Matter  of  Applications  of  the  New  York  Central  and  Hudson  River  Railroad 
Company  for  leave  to  acquire  certain  stocks  and  of  the  Rochester  and  Eastern  Rapid 
Railway  Company  for  authorization  of  the  issue  of  capital  stock,  1  P.S.C.R.,  2nd  Dist., 
N.  Y.,  294.    Decided  July  21, 1908. 


CAPITAL  CONTROL  IN  NEW  YORK  231 

sion  in  the  Mohawk  Valley  case,  the  Commission  speaks  of  "our  in- 
ability to  give  a  precise  and  definite  answer  upon  a  question  upon  which 
probably  no  two  experts  would  exactly  agree,  to  wit,  the  value  of  these 
stocks. " 

A  similar  case  in  the  First  District,  the  Matter  of  the  AppHcation  of 
Coney  Island  and  Gravesend  Railway  Company ,2  involved  the  purchase 
by  one  street  raihoad  corporation  from  another  of  its  entire  outstanding 
capital  stock  at  par.  This  brought  up  the  question  of  the  value  of  the 
stock.  The  majority  opinion  approving  the  transfer  pointed  out  that 
the  company  had  imtil  very  recently  been  earning  6  per  cent  dividends 
and  would  soon  be  doing  so  again,  and  that  a  large  part  of  the  road  ran 
through  a  well  developed  section  and  the  remainder  through  a  rapidly 
developing  section.  The  appHcant  company  was  itself  a  subsidiary  of 
the  Brooklyn  Rapid  Transit  system  and  the  proposed  purchase  of  stock 
would  bring  it  into  operation  as  a  part  of  the  system.  The  majority  of 
the  Conmiission  seemed  to  be  convinced  that  a  reduction  of  operating 
expenses  could  be  brought  about  thereby  and  that  the  stock  to  be  pur- 
chased could  thus  be  made  to  earn  more. 

Several  ways  of  fixing  the  value  of  the  stock  of  a  raihoad  corporation 
were  pointed  out  by  the  Commission,  as  follows:  Market  value,  earning 
power,  and  cost  to  reproduce  the  property;  but  it  was  agreed  that  there 
seemed  to  be  no  hard-and-fast  rule.  Market  value,  the  Commission 
held,  was  always  influenced  by  what  was  offered  for  the  stock.  In  this 
case  there  was  an  outstanding  offer  for  par,  but  it  was  felt  that  the  very 
fact  that  another  raihoad  company  was  in  the  market  for  the  stock  caused 
many  holders  to  wait  for  a  higher  price.  However,  it  was  argued,  to 
withhold  consent  to  a  purchase  of  stock  of  one  railroad  corporation  by 
another,  unless  it  was  purchased  at  its  actual  market  value,  would  likely 
stop  all  such  contemplated  purchases.  Earning  power  was  the  element 
which,  in  the  opinion  of  the  Commission,  is  given  most  consideration  by 
investors  in  raihoad  securities. 

Cost  to  Reproduce  as  a  Test  of  Value 

In  consideration  of  other  data  available  as  to  the  value  of  the  stock 

in  this  case  the  ascertainment  of  the  cost  to  reproduce  new  was  felt  to 

involve  such  an  expensive  and  compHcated  investigation  as  to  be  hardly 

worth  while,  since  it  would  be  used  merely  as  one  of  several  tests.    It 

*  Matter  of  Application  of  the  Coney  Island  and  Gravesend  Railway  Company 
for  Authority  to  Acquire  Capital  Stock  of  the  Coney  Island  and  Brooklyn  Railroad 
Company,  4  P.S.C.R.,  1st  Dist ,  N.  Y.,  490.    Opinion  adopted  December  26, 1913 


232  CAPITAL  CONTROL  IN  NEW  YORK 

was  held  that  if  the  Commission  could  arrive  at  the  value  of  this  stock 
from  its  market  value  and  from  its  earning  capacity,  it  should  do  so, 
and  should  resort  to  a  re-valuation  of  the  physical  property  only  as  a 
last  resort,  or  if  it  had  reason  to  doubt  that  the  market  value  and  the 
earnings  shown  were  accurate. 

In  a  dissenting  opinion.  Commissioner  Maltbie  contended  that  the 
claims  of  par  value  for  the  stock  were  not  supported  by  any  specific 
quotations  for  the  stock,  as  far  as  such  were  available  during  the  last 
few  years.  The  Commissioner  also  claimed  that  a  few  years  before  the 
company  had  been  barely  saved  from  a  receivership  and  reorganization 
proceedings,  that  it  had  for  several  years  been  paying  dividends  which 
had  not  been  earned,  and  that  the  property  had  been  allowed  to  run  down. 

There  seemed  to  be  a  pronounced  tendency  in  the  majority  opinion 
to  use  the  anticipated  advantages  of  the  proposed  merger  as  a  basis  for 
the  transfer  price  of  the  stock.  This  would  be,  in  effect,  a  capitalization 
of  a  contract  for  consolidation,  which  is  expressly  forbidden  by  law,  where- 
as the  minority  opinion  sought  to  arrive  at  the  value  of  the  stock  as  it  was, 
independent  of  any  proposed  change  in  its  control. 

Propriety  of  Basing  Permission  to  Transfer 
Stock  Upon  a  Condition 
Another  point  which  involved  a  good  deal  of  discussion  in  this  case 
was  the  question  as  to  whether  approval  of  an  application  for  a  stock 
transfer  could  properly  be  based,  in  whole  or  in  part,  upon  a  condit'on. 
In  this  case  the  proposed  condition  was  in  the  nature  of  a  concession 
by  the  applicant's  corporation  in  the  service  rendered  to  the  public,  a 
granting  of  additional  transfer  privileges  in  return  for  permission  to 
consummate  the  proposed  purchase  of  stock.  One  of  the  Commissioners, 
in  supporting  the  majority  opinion,  stated  that  he  voted  aye 

upon  the  condition  that  an  order  be  made  requiring  the  companies  of  The  Brooklyn 
Rapid  Transit  System  (including  The  Coney  Island  and  Brooklyn  Railroad  Company) 
to  furnish  transfers  at  every  intersection  of  their  surface  railroad  lines  between  the 
surface  lines  of  these  companies,  so  that  a  passenger  may  ride  in  the  same  general 
direction  from  a  point  of  origin  to  a  point  of  destination  for  a  single  fare  of  five  cents. 

As  to  the  propriety  of  endeavoring  to  exact  such  a  condition  for  the 
approval  of  the  transfer  of  stock,  the  majority  opinion  took  the  following 
position: 

If  this  application  to  purchase  stock  is  such  as  should  be  granted,  an  order  to  that 
effect  should  be  entered.  If  the  application  is  not  such  as  should  be  granted,  it  cannot 
be  made  right  by  means  of  a  bargain  as  to  the  giving  of  transfers. 


CAPITAL  CONTROL  IN  NEW  YORK  233 

Commissioner  Maltbie  in  a  dissenting  opinion  expressed  himself  as 
follows : 

The  company  has  said  that  there  will  be  economies  in  management  and  operation. 
The  people  are  entitled  to  know  whether  all  of  these  economies  and  advantages  are  to 
be  kept  by  the  companies,  or  whether  the  public  is  to  reap  some  advantages  from 
monopoly  control.  It  is  obvious  that  this  question  is  a  fundamental  question  in  any 
application  for  the  combination  or  consolidation  of  companies  which  have  heretofore 
been  competing  companies. 

The  applicant  corporation  had  contended,  and  the  majority  of  the 
Commission  seemed  to  take  the  same  position,  that  the  attaching  of 
conditions  to  approval  of  an  application  for  stock  transfer  would  be  an 
improper  act  upon  the  part  of  the  Conmiission.  In  this  connection  the 
dissenting  Commissioner  argued  as  follows: 

I  do  not  appreciate  upon  what  grounds  the  impropriety  would  be  based.  It 
certainly  cannot  be  upon  the  ground  that  the  Commission  has  no  power  to  attach  any 
conditions  to  an  approval,  for  that  has  been  done  in  numerous  cases,  and  I  know  of  no 
instance  where  opposition  to  an  Order  has  been  based  upon  the  theoretical  ground  that 
no  conditions  can  be  attached  to  an  order  of  approval. 

.The  Commission  (First  District)  had  in  a  previous  case — the  purchase 
of  the  stock  of  the  Queens  Gas  Company  and  the  Queens  Gas  and  Elec- 
tric Company  by  the  Consolidated  Gas  Company  of  New  York,  attached 
to  the  order  of  approval  a  condition  stipulating  minimum  prices  for  the 
purchase  of  stock  from  minority  holders,  and  designed  to  protect  them.* 

A  condition  attached  to  approval  of  a  transfer  of  stock,  which  pertains 
to  the  stock  in  question,  may  or  may  not  differ  from  a  condition  relating 
for  instance,  to  increased  transfer  privileges.  It  would  seem  that  no 
logical  objection  could  be  raised  to  the  attaching  of  a  condition  having 
to  do  with  some  phase  of  the  stock  transfer  itself.  The  second  kind  of 
condition,  involving  concessions  of  one  kind  or  another  wrimg  from  the 
apphcant  corporation,  is  open  to  some  criticism,  at  least  in  theory.  Such 
a  basis  of  procedure  has  a  'trading-post'  atmosphere  about  it.  The 
attitude  of  the  majority  opinion,  to  the  effect  that  if  the  application  for 
transfer  of  stock  was  justified  as  such,  it  should  be  granted,  and  if  it 
were  not  justified  it  could  not  be  made  right  by  means  of  a  bargain,  is 
sound  in  principle.  Conditions  relating  to  concessions  suggest  the 
methods  prevalent  some  years  ago  in  the  granting  of  franchises  by  muni- 
cipahties  to  public  utility  corporations.    In  such  cases  grants  of  fran- 

'  Matter  of  Application  of  the  Consolidated  Gas  Company  to  Purchase  the  Stock 
of  the  New  York  and  Queens  Electric  Light  &  Power  Co.,  and  the  New  York  and 
Queens  Gas  Company,  4  P.S.C.R.,  1st  Dist.,  N.  Y.,  231.  Opinion  adopted  May  20, 
1913 


234  CAPITAL  CONTROL  IN  NEW  YORK 

chises  to  street  railway  companies  were  accompanied  by  conditions  as  to 
repair  of  streets,  removal  of  snow,  etc.  In  such  bargaining  there  was 
no  accurate  ratio  of  value  between  the  privileges  given  and  the  concessions 
obtained  in  return,  and  the  way  was  opened  to  a  system  of  tradiag  in 
which  the  public  often  got  httle  in  exchange.  Most  serious  of  all,  there 
was  a  tendency  for  'log-rolling'  to  be  accepted  as  the  real  basis  to  which 
the  underlying  principles  were  subordinated. 

Of  course,  Commissioner  Maltbie's  idea  was  to  give  the  matter  of 
concessions  a  purely  subordinate  position.  He  simply  maintained  that 
if  the  companies  involved  would  reap  substantial  financial  advantage 
from  the  proposed  transfer  of  stock,  the  pubUc  was  entitled  to  some  of 
this  benefit,  and,  in  defense  of  his  attitude  in  this  particular  case,  there 
might  be  noted,  as  mentioned  above,  the  evident  tendency  of  the  majority 
of  the  Commission  to  justify  the  proposed  price  to  be  paid  for  the  stock 
upon  the  financial  benefits  to  be  derived  from  the  consohdation.  The 
inherent  objection  to  the  introduction  of  the  bargaining  element,  however, 
is  the  difficulty  of  keeping  it  in  a  properly  subordinate  position  in  the 
subsequent  work  of  the  Commission,  and  the  tendency  for  it  to  become 
the  practical,  if  not  the  officially  recognized,  basis  in  subsequent  cases. 
On  the  other  hand,  any  practice  may,  of  course,  be  subject  to  abuse  in 
the  hands  of  lax  or  imscrupulous  public  ofl&cials. 

The  real  crux  in  this  case  was  that  the  Brooklyn  Rapid  Transit 
Company  sought  to  gain  all  the  advantages  of  unified  operation  without 
shouldering  any  of  the  disadvantages  in  the  matter  of  concessions  to  the 
public.  In  a  merger  of  street  railway  companies  the  new  company  must 
by  law  grant  transfers  over  its  entire  system,  but  if  one  company  merely 
consolidates  with  other  companies  it  is  not  compelled  so  to  do.  By 
consohdating  instead  of  merging,  the  Brooklyn  Rapid  Transit  Company 
in  this  case  sought  to  reap  the  benefits  of  control  without  being  compelled 
by  law  to  grant  transfers.  The  same  company  has  pursued  this  policy 
in  numerous  instances.  Commissioner  Maltbie  was  justified,  therefore, 
in  seeking,  through  administrative  regulation,  to  secure  to  the  public 
some  of  the  financial  benefit  which  would  accrue  to  the  company  through 
unified  control,  and  which  the  legal  requirements  governing  mergers 
would  have  compelled  it  to  grant.  And  since  the  Commission  is  the 
legislative  agent  of  the  public  and  has  been  entrusted  with  discretion  to 
permit  or  withhold  leave  to  consolidate,  his  position  was  sound. 


CAPITAL  CONTROL  IN  NEW  YORK  235 

Stock  Transfer  Based  Upon  the  Writing  Of  of  Intangible 
Values  from  the  Capital  Account 

In  contrast  with  the  seemingly  lax  valuation  of  stock  in  the  case  just 
discussed,  we  might  cite  the  action  of  the  Second  District  Commission 
in  connection  with  the  application  of  the  Buffalo  General  Electric  Com- 
pany to  acquire  the  stock  of  the  Cataract  Power  and  Conduit  Company.* 

One  ground  of  opposition  was  the  fact  that  the  Buffalo  company 
proposed  to  issue  its  securities  in  payment  for  the  stock  of  the  Cataract 
Company.  In  the  Cataract  rate  case  it  had  been  held  by  the  Com- 
mission that  none  of  this  stock  had  been  issued  for  cash  or  an  equivalent 
in  property.^  The  Cataract  Company  admitted  this,  but  claimed  that 
it  had  obtained  very  valuable  intangible  property  in  the  shape  of  rights 
by  the  issuance  of  this  stock. 

The  Commission  decided  that  it  could  properly  require  the  com- 
panies to  write  off  a  substantial  portion  of  the  intangible  value  repre- 
sented by  said  stock  as  a  condition  of  the  approval  of  the  stock  transfer, 
and  that  this  object  could  practically  be  attained  by  writing  off  the  par 
value  of  the  bonds  of  the  Cataract  Company,  then  outstanding  to  the 
amount  of  $1,384,000.  This  was,  accordingly,  made  a  condition  of  the 
merger.  The  result  of  such  a  course  would  be  to  enhance  the  value  of 
the  stock  by  that  much,  and  the  same  result  would  have  been  accom- 
plished as  by  letting  the  bonds  stand  and  making  a  proportionate  reduc- 
tion in  the  price  of  the  stock.  We  have  here  a  good  example  of  an 
attached  condition  pertaining  to  the  stock  transfer  itself,  as  compared 
with  a  concession  relating  to  service,  as,  e.g.,  increased  transfer  privileges. 

Protection  of  Minority  Stockholders 
The  protection  of  minority  stockholders  was  emphasized  by  the 
First  District  Commission  in  an  application  of  the  Third  Avenue  Railway 
Company  for  permission  to  purchase  a  controlling  interest  in  the  stock 
of  the  New  York  City  Interborough  Company,  of  which  it  did  not  own  a 
single  share.^  A  controlhng  interest  of  27,500  shares,  out  of  a  total  of 
50,000  shares  had  been  secured.    The  petition  stated  that  the  company 

*  Matter  of  Application  of  Buffalo  General  Electric  Company  for  authority  to 
acquire  the  stock  of  the  Cataract  Power  and  Conduit  Company,  4  P.S.C.R.,  2nd 
Dist.,  N.  Y.,  528.     Decided  June  24, 1915. 

»  Matter  of  Application  of  L.  P.  Fuhrmann  v.  The  Cataract  Power  and  Conduit 
Company,  3P.S.C.R.,  2nd  Dist.,  N.  Y.  656.     Decided  April  2, 1913. 

*  Matter  of  Application  of  the  Third  Avenue  Railway  Company  to  Acquire 
Certain  Shares  of  the  Capital  Stock  of  Certain  Street  Railroad  Corporations,  3  P.S.C. 
R.,  1st  Dist.,  N.  Y.,  327.     Opinion  adopted  June  28, 1912. 


236  CAPITAL  CONTROL  IN  NEW  YORK 

could  also  acquire  1,150  shares  at  about  $7.50  per  share  and  12,575  shares 
at  an  average  of  $18.10  per  share,  leaving  a  balance  of  8,775  shares. 

The  question  arose  as  to  what  justification  there  was  for  paying  $18. 10 
per  share  for  one  block,  and  $7.50  per  share  for  another,  when  the  com- 
pany would  have  a  controlling  interest  without  either.  According  to  the 
testimony  the  higher  price  was  to  be  a  reward  for  the  assistance  the 
holders  rendered  "in  conducting  the  negotiations  and  putting  the  thing 
through."  Before  the  close  of  the  hearings,  however,  the  applicant 
withdrew  this  part  of  the  petition. 

The  Commission  wished  to  know  whether  the  company  would  be  will- 
ing to  pay  the  holders  of  the  remaining  8,775  shares  of  stock  the  average 
price  paid  for  the  last  large  block,  $18.10  per  share,  and  if  not,  what  the 
company  did  propose  for  the  protection  of  the  minority  interest.  The 
company  stated  that  it  would  not  be  willing  to  pay  $18  per  share  for  the 
minority  holdings,  and  consequently,  the  Commission  insisted  that 
some  provision  should  be  made  for  the  protection  of  the  minority  stock- 
holders and  that  the  company  ought  to  state  before  the  proceeding  was 
closed  what  it  was  willmg  to  do.  The  company  finally  stated  that  it 
would  be  willing  to  pay  not  to  exceed  $7  per  share  for  all  or  any  of  the 
21,530  shares  outstanding,  this  being  about  the  average  price  recently 
obtained  for  the  shares  in  the  open  market. 

This  statement  the  Commission  considered  sufficient  under  the  cir- 
cumstances to  remove  any  objection  to  the  proposed  purchase  of  stock 
upon  this  point.'' 

^  For  comparative  purposes  see  Matter  of  Application  of  the  New  York  Central 
and  Hudson  River  Railroad  Company  and  of  the  Lake  Shore  and  Michigan  Southern 
Railway  Company  for  leave  to  purchase  capital  stock  of  the  Lake  Shore  and  Michi- 
gan Southern  Railway  Company,  4  P.S.C.R.,  2nd  Dist.,  N.  Y.,  258.  Decided  Decem- 
ber 14, 1914.  In  this  case  reference  is  made  to  the  provisions  of  the  Ohio  statute,  under 
which  non-assenting  shareholders  of  a  corporation  proposing  to  consolidate  with 
other  corporations  may  demand  purchase  by  the  corporation  of  such  non-assenting 
stock  at  a  price  to  be  determined  in  accordance  with  the  provisions  of  the  statute 
(General  Code  of  Ohio,  sections  9034,  9035  and  9036).  The  final  test  of  price  as 
fixed  by  this  statute  is  the  highest  market  value  of  such  stock  at  any  time  within  two 
years  next  preceding  the  making  of  the  agreement  for  the  proposed  consolidation. 
The  Taft  Commission  on  Railroad  Securities  (1911)  made  a  recommendation  with  re- 
gard to  the  protection  of  minority  stockholders  which  the  First  District  Commission 
endorsed  and  quoted  in  their  opinion,  and  which  is  given  herewith:  "Any  company 
or  group  of  companies  which  has  purchased  a  majority  of  the  stock  of  any  existing  road 
may  properly  be  required  to  buy  the  minority  stock  at  the  same  price  as  that  paid  for 
the  majority  stock  where  the  price  has  been  uniform.  If  the  price  has  not  been  uni- 
form, the  purchase  should  be  either  at  the  average  price  paid  for  such  holdings  or  at 
a  price  to  be  fixed  by  appraisal,  at  the  option  of  the  minority  stockholders." 


CAPITAL  CONTROL  IN  NEW  YORK  237 

The  duty  of  protecting  the  minority  stockholders  was  again  dwelt 
upon  in  a  dissenting  opinion  by  Commissioner  Maltbie  in  a  First  District 
case  involving  the  purchase  of  a  controlling  interest  in  the  Queens  Elec- 
tric Company  by  the  Consolidated  Gas  Company  of  New  York  City.^ 
The  Consohdated  Company  had  not  been  able  to  secure  options  upon  all 
of  the  common  and  preferred  stock  of  the  electric  company  and  yet 
objected  to  a  condition  in  an  order  of  approval  which  would  require  it 
to  purchase  all  or  none  of  the  capital  stock.  As  long  as  there  was  a 
minority  interest  which  the  Consolidated  Company  did  not  control,  it 
was  contended  that  that  minority  interest  might  be  affected  adversely 
by  the  majority.  The  Order  approving  the  purchase  of  stock  which  was 
subsequently  issued  contained  a  hard  and  fast  condition  for  the  pro- 
tection of  these  minority  stockholders.  This  provided  that  within  a 
year  from  the  date  of  the  Order  minority-owned  stock,  preferred  and 
common,  should  be  purchased  by  the  company  when  offered  at  the 
prices  stipulated  in  the  Order  for  each  kind  of  stock. 

Denial  of  Consent  to  Stock  Transfer  Based  Upon  Inadequate 
Protection  to  Minority  Holders 
In  an  important  Second  District  case  involving  the  purchase  of 
railroad  stock,  the  necessity  for  protecting  minority  stockholders  was 
indirectly  responsible  for  the  denial  of  the  application.  The  New  York 
Ontario  &  Western  Railroad  Company  was  a  raihoad  corporation  of  the 
State  of  New  York,  whose  capital  stock,  issued  and  outstanding,  con- 
sisted of  581,139  shares  of  common  and  40  shares  of  preferred  stock, 
each  of  the  par  value  of  $100.  The  par  value  of  the  common  stock  was 
$58,113,900  and  of  the  preferred  stock  $4,000.  The  New  York  New 
Haven  and  Hartford  Railroad  Company  owned  291,600  shares  of  the 
common  stock  of  the  par  value  of  $29,160,000,  and  22  shares  of  the 
preferred  stock  of  the  par  value  of  $2,200.  The  New  York  Central  and 
Hudson  River  Raihoad  Company  made  appUcation^  for  authorization 
to  purchase  all  of  the  above-mentioned  capital  stock  owned  by  the 
New  York  New  Haven  and  Hartford  Railroad  Company. 

•Matter  of  Application  of  the  Consolidated  Gas  Company  of  New  York  for 
Authority  to  Purchase  the  Stock  of  the  New  York  and  Queens  Electric  Light  and 
Power  Company  and  the  New  York  and  Queens  Gas  Company,  4  P.S.C.R.,  1st  Dist., 
N.  Y.,  231.    Opinion  adopted  May  20, 1913. 

'  Matter  of  Application  of  the  New  York  Central  and  Hudson  River  Railroad 
Company  for  authorization  to  purchase  from  the  New  York,  New  Haven  and  Hartford 
Railroad  Company  stock  of  the  New  York  Ontario  and  Western  Railroad  Company, 
3  P.S.C.R.,  2nd  Dist.,  N.  Y.,  261.    Decided  April  2, 1912. 


238  CAPITAL  CONTROL  IN  NEW  YORK 

The  Commission  held  that  the  motive  was  obviously  to  gain  control, 
that  such  control  could  then  be  exercised  either  for  the  benefit  of  the 
Ontario  and  Western,  or  for  the  benefit  of  the  Central,  and  that  the 
relations  of  the  two  roads  would  be  such  that  the  majority  control  could 
easily  dictate  courses  which  would  as  a  whole  be  advantageous  to  it, 
although  not  profitable  to  the  Ontario  and  Western.  Such  a  possibility, 
it  was  contended,  would  make  easy  an  oppression  of  the  minority  stock- 
holders which  it  would  be  hard  for  the  courts  to  prevent. 

In  den3dng  the  application  the  Commission  expressed  itself  as  follows: 

No  transfer  of  a  bare  majority  interest  from  the  New  Haven  to  the  Central  should 
be  permitted  without  reasonably  guarding  the  minority  from  possible  oppression  by 
the  majority  interest.  No  means  are  apparent  by  which  this  can  be  done  in  this  case 
except  by  imposing  as  a  condition  of  the  authorization  that  the  Central  shall  take  over 
such  of  the  minority  stock  as  may  be  offered  it  upon  the  same  terms  per  share  as  it 
pays  the  New  Haven. 

If  the  minority  stockholders  saw  fit  to  avail  themselves  of  this  privilege, 
the  Commission  pointed  out,  the  Central  would  be  compelled  to  assume 
a  purchase  price  of  substantially  $26,000,000,  and  an  annual  fixed  charge 
for  interest  of  substantially  $1,150,000.  The  Commission  expressed  it- 
self as  unwilling  to  impose  such  a  burden  upon  the  Central  and  as  unable 
to  perceive  any  advantages  which  in  its  judgment  would  compensate 
for  the  disadvantages  involved  in  such  an  investment. 

Permission  to  Consolidate  Based  upon  Advan- 
tage to  Minority  Stockholders 

In  direct  contrast  with  this  case  was  the  appHcation  of  the  New  York 
New  Haven  &  Hartford  to  purchase  from  the  New  York  Central  a  con- 
trolling interest  in  the  stock  of  the  Rutland  Railroad  Company.^"'  On 
December  27,  1911,  the  New  Haven  Company  filed  a  petition  asking 
leave  to  purchase  from  the  New  York  Central  the  47,041  shares  of  the 
preferred  stock  of  the  Rutland  Company,  which  the  latter  owned.  The 
petition  was  duly  granted. 

Among  its  reasons  for  the  authorization  the  Commission  held  that: 

The  New  York  Central,  which  at  present  controls  the  Rutland,  is  to  a  material 
extent  a  competitor  with  the  Rutland;  while  on  the  other  hand  the  Rutland  is,  by  its 

^°  Matter  Application  of  T.  C.  Delavan  for  an  order  to  declare  null  and  void  the 
purchase  by  the  New  York,  New  Haven  and  Hartford  Railroad  Company  from  the 
New  York  Central  and  Hudson  River  Railroad  Company  of  stock  of  the  Rutland 
Railroad  Company,  3  P.S.C.R.,  2nd  Dist.,  N.  Y.,  492.  Decided  December  18,  1912. 


CAPITAL  CONTROL  IN  NEW  YORK  239 

connection  with  the  Boston  and  Maine  a  natural  extension  of  the  New  Haven  system 
as  at  present  operated,  and  that  the  natural  effect  of  the  control  of  the  Rutland  by  the 
New  Haven  wiU  be  to  increase  competition  and  induce  a  very  considerable  increase  of 
business  over  the  Rutland  from  and  to  New  England  points. 

The  Commission  emphasized  the  fact  that  it  still  adhered  to  the  principle 
laid  down  by  it  in  the  Ontario  and  Western  case,  namely,  that  in  trans- 
fers of  control  of  a  subsidiary  railroad  proper  protection  should  be  af- 
forded to  the  rights  of  minority  stockholders.  It  held,  however,  that  it 
did  not  necessarily  follow  that  in  every  case  the  purchasing  road  should 
offer  to  the  minority  stockholders  the  same  price  for  their  stock  which  it 
was  willing  to  pay  for  control.  While  such  a  condition  might  well  be 
imposed  in  a  case  where  the  transfer  would  create  a  control  which  did  not 
theretofore  exist,  in  the  present  case  the  control  was  already  in  the  hands 
of  the  Central,  and  the  rehef  sought  was  merely  the  transfer  of  that  con- 
trol to  the  New  Haven.  K  the  result  of  the  transfer  to  the  New  Haven 
would  be  to  increase  the  business  of  the  Rutland  and  thereby  increase 
its  revenues,  it  would  be  to  the  advantage  of  the  minority  stockholders. 

The  Absorption  of  Competing  Companies 
One  of  the  most  fundamental  questions  involved  in  many  stock  trans- 
fers is  the  consideration  of  the  effect  upon  the  general  pubHc,  the  con- 
sumer, of  the  acquisition  of  control  of  one  company  by  another.  It  may 
be  for  the  worse,  or,  contrary  to  general  opinion,  it  may  be  for  the  better. 
Into  this  category  we  would  put  those  cases  in  which  the  transfer 
causes  an  actual  change  in  existing  conditions,  from  an  operating  as  well 
as  from  a  financial  point  of  view,  and  not  such  cases  as,  for  instance,  the 
purchase  by  a  leesee  road  of  the  stock  of  a  subsidiary  road  aheady  under 
lease  for  99  years,  for  the  purpose  of  facihtating  the  issue  of  needed 
securities.  In  the  latter  case  the  change  is  not  in  actual  operating  rela- 
tions, but  in  financial  relations,  and  such  a  change  tends  to  make  possible 
improvements  in  the  already  existing  conditions  of  operation,  and  is, 
therefore,  beneficial  to  the  travelling  pubUc. 

Elimination  of  Competition  not  a  Valid  Reason 

for  Consolidation 

In  connection  with  the  application"  of  the  Third  Avenue  Railway 

Company  to  purchase  a  controlling  interest  in  the  stock  of  the  New  York 

City  Interborough  Railway  Company,  the  president  of  the  appHcant 

"  Matter  of  Application  of  the  Third  Avenue  Railway  Company  to  acquire  Capi- 
tal Stock  of  Certain  Street  Railroad  Corporations  and  to  Issue  Bonds,  3  P.S.R.C., 
1st  Dist.,  N.  Y.,  327.    Opinion  adopted  June  28, 1912. 


240  CAPITAL  CONTROL  IN  NEW  YORK 

company  testified  that  the  chief  reason  why  his  company  desired  such 
control  was  to  prevent  the  New  York  City  Interborough  Company  from 
dividing  the  earnings  of  the  Third  Avenue  in  the  Bronx.  The  Commis- 
sion held  that  such  a  reason — the  elimination  of  competition — was  invahd 
from  the  public  standpoint;  that  competition  in  itself  was  desirable 
and  beneficial  and  that  it  was  only  when  the  attendant  evils  were  so 
objectionable  that  they  outweighed  the  benefits  of  competition  that  com- 
petition should  be  restricted;  and  that  if  the  only  result  of  the  acquisition 
of  the  stock  of  the  New  York  City  Interborough  Company  by  the  Third 
Avenue  Company  were  the  elimination  of  competition  between  the 
former  company  and  the  Union  Company /^  such  acquisition  should 
not  be  approved.  However,  it  was  felt  by  the  Commission  that  there 
were  other  considerations. 

An  examination  of  a  map  showing  the  lines  and  franchises  of  the  var- 
ious companies  in  the  Borough  of  The  Bronx  indicated  that  the  New 
York  City  Interborough  Company  tapped  only  in  part  the  same  areas 
supplied  by  other  companies,  and  that  the  unification  of  the  two  systems 
would  in  those  areas  eliminate  competition  of  a  general  character  only. 
The  Commission  was  convinced  that  a  unified  system  could  be  operated 
with  greater  harmony  and  that  schedules  could  be  arranged  to  provide 
better  connections  at  non-rush  hours;  that  paralleling  of  lines  could  be 
avoided,  and  that  there  were  possibilities  of  economies  in  management  and 
operation.     For  these  reasons  permission  to  consolidate  was  granted. 

Efect  upon  Public  Interests  of  Consolidation  of 
Gas  and  Electric  Utilities 
In  1912  the  Consoliated  Gas  Company  of  New  York  City  applied^^ 
for  permission  to  purchase  controlling  interests  in  the  stock  of  the  New 
York  and  Queens  Gas  Company,  and  in  that  of  the  Queens  Electric  Light 
and  Power  Company.  The  most  important  point  involved  was  the 
extension  of  the  monopoly  of  the  Consolidated  Gas  Company  into  new 
territory,  both  as  to  gas  and  electricity.  The  latter  company  owned  all 
the  capital  stock  of  the  New  York  Edison  Company,  which  supplied  most 
of  the  current  in  Manhattan.    On  the  other  hand  most  of  the  directors 

"The  Interborough  Company  had  been  organized  in  1902,  for  the  purpose,  it 
was  said,  of  competing  with  the  Union  Company.  The  entire  stock  of  the  Union 
Company  was  owned  at  this  time  by  the  Third  Avenue  Company. 

"  Matter  of  AppUcation  of  the  Consolidated  Gas  Company  for  authority  to 
Purchase  the  Stock  oi  the  New  York  and  Queens  Electric  Light  and  Power  Company 
and  the  New  York  and  Queens  Gas  Company,  4  P.S.C.R.,  1st  Dist.,  N.  Y.,  231. 
Opinion  adopted  May  20, 1913. 


CAPITAL  CONTROL  IN  NEW  YORK  241 

of  the  Queens  County  Gas  Company  were  also  directors  of  the  Queens 
Electric  Light  and  Power  Company,  so  that  while  there  were  two  separate 
organizations,  they  represented  the  same  interests.  Thus,  the  majority 
of  the  Commission  felt  that  the  granting  of  the  appHcations  would  make 
little  diflFerence  in  the  existing  condition  as  far  as  the  control  of  gas  and 
electricity  by  the  same  interests  was  concerned. 

Commissioner  Maltbie  filed  a  dissenting  opinion,  in  which  he  approved 
the  apphcation  in  regard  to  the  Queens  Gas  stock,  but  vigorously  opposed 
the  acquisition  by  the  ConsoUdated  of  the  Queens  Electric  stock,  con- 
tending that  even  if  the  appUcant  were  to  present  a  plan  which  removed 
the  minor  objections,  there  would  remain  a  far  more  important  objection 
inherent  to  the  matter  of  control.  For  if  the  apphcation  were  granted, 
the  ConsoUdated  Gas  Company  would  control,  through  the  ownership 
of  the  majority  of  stock  in  the  Queens  Electric  Company,  practically 
the  whole  supply  of  electricity  in  the  Borough  of  Queens  and  also  control 
the  gas  supply  in  Wards  No.  1  and  No.  3,  and  franchises  for  the  supply 
of  gas  in  other  districts.  "Through  its  control  of  these  subsidiary 
companies,"  Commissioner  Maltbie  claimed,  "it  would  be  able  to  deter- 
mine the  poHcy  of  each,  the  extent  to  which  new  processes,  inventions 
and  methods  should  be  introduced,  the  vigor  with  which  each  service 
should  be  pushed  as  against  the  other,  and  the  degree  to  which 
electricity  would  be  allowed  to  compete  with  gas  or  vice  versa. " 

Regulated  monopoly  as  illustrated  by  Commission  control,  it  was 
contended,  was  not  intended  to  do  away  with  fair  competition  as  an 
economic  factor  in  the  control  of  pubUc  utihties,  but  was  to  be  used  only 
in  those  cases  where  competition  had  faUed  to  protect  the  pubUc  interest. 
The  gas  and  electric  industries  were  regarded  as  belonging  to  the  class 
where  experience  had  showTi  regulated  monopoly  to  be  the  best  means 
of  protection  to  the  consumiag  pubUc,  but  the  question  which  in  this 
case  appealed  to  Commissioner  Maltbie  as  of  fundamental  importance 
was  "not  whether  gas  companies  supplying  the  same  area  should  be 
allowed  to  consohdate,  but  whether  companies  supplying  competing 
services,  namely,  gas  and  electricity,  should  be  permitted  to  come  imder 
a  single  control."    In  answer  the  Commissioner  stated: 

It  should  first  be  pointed  out  that  the  arguments  which  are  made  in  favor  of  mono- 
poly in  each  of  these  industries  do  not  apply  to  monopolistic  control  of  both  industries. 
The  plant  and  facilities  of  a  gas  company  are  entirely  different  from  those  of  an  electric- 
supply  company.  Each  must  have  its  separate  generating  plant,  its  distribution 
system,  its  organisation,  its  staff  of  engineers,  experts  and  employees,  etc.  The  plant 
and  facilities  used  by  the  gas  company  could  not  be  used  by  an  electric  company  even 
if  both  were  under  the  same  control,  and  the  elimination  of  inconvenience  to  the 


242  CAPITAL  CONTROL  IN  NEW  YORK 

public  caused  by  the  duplication  of  property  in  the  streets,  interruptions  of  trafl&c 
and  injury  to  paving  could  not  be  urged  as  a  reason  for  unity  of  control,  because  the 
distributing  system  of  the  gas  company  is  entirely  separate  and  distinct  from  that  of 
the  electric  company,  and  consolidation  would  not  lessen  street  work." 

In  this  case,  the  two  companies  involved,  the  New  York  Edison 
Company  and  the  Queens  Electric  Company,  both  had  business  of  such 
magnitude  as  to  need  no  assistance  from  the  other  and  there  seemed  little 
possibility  of  a  saving  in  "overhead  expense"  as  each  company  could 
fully  employ  a  large  staff  of  men. 

A  further  objection  was  expressed  by  the  Commissioner  as  follows: 

.  .  .  control  of  gas  and  electricity  by  a  single  company,  or  of  separate  companies  sup- 
plying these  serx^ices  through  a  holding  company,  may  retard  the  natural  development 
of  each,  prevent  the  rapid  introduction  of  new  processes,  inventions  and  methods  and 
repress  the  keen  rivalry  which  competition  between  the  two  services  would  naturally 
produce.  .  .  . 

.  .  .  The  tendency  of  monopoly  is  towards  apathy,  delay  in  adopting  inventions 
which  will  improve  service,  but  not  increase  income,  indifference  to  the  needs  and 
demands  of  consumers,  and  lack  of  responsiveness  to  changing  conditions  which  alert 
management  should  constantly  show.  When  competitive  services  are  brought  under 
single  control,  monopoly  is  at  its  worst,  for  it  has  eliminated,  not  only  competition 
between  those  supplying  the  same  service,  but  competition  between  those  supplying 
competitive  services. 

Permission  to  the  transfer  of  stock  was  granted,  the  majority  of  the 
Commission  holding  that  the  service  would  be  improved  and  the  efficiency 
of  operation  increased;  that  the  proposed  action  should  be  approved  in 
order  that  the  plants  and  f aciUties  of  the  Queens  companies  could  be  made 
adequate  to  the  needs  of  the  rapidly  growing  population  in  the  area  of 
supply.  Much  weight  was  given  to  the  plea  advanced  by  the  Consoh- 
dated  Company  that  without  the  assistance  of  the  Consolidated  Gas 
Company  the  other  companies  whose  stock  it  wished  to  purchase  would 
find  it  difficult,  and  perhaps  impossible,  to  finance  the  cost  of  improve- 
ments and  extensions. 

An  interesting  sequel  came  two  years  later  in  the  application^^  of 

"  For  similar  discussions  see  Matter  of  Application  of  the  Watertown  Light  and 
Power  Company  and  the  Watertown  Gas  Light  Company  for  approval  of  a  consohda- 
tion,  1  P.S.C.R.,  2nd  Dist.  N.  Y.,  496.  Decided  March  9, 1909,  also  Matter  of  Applica- 
tion of  Palmyra  Gas  and  Electric  Company,  etc.  etc.,  for  Approval  of  Consolidation 
into  Wayne  County  Gas  and  Electric  Company,  2  P.S.C.R.,  2nd  Dist.,  N.  Y.,  500 
Decided  June  22,  1910. 

"  Matter  of  Extension  of  Gas  Mains  of  the  New  York  and  Queens  Gas  Company 
to  Serve  Residents  of  Douglaston,  etc.,  6  P.S.C.R.,  1st  Dist.,  N.  Y.,  35.  Opinion 
adopted  February  11, 1915. 

See  same  case  6  P.S.C.R  ,  1st  Dist.,  N.  Y.,  187.    Order  entered  March  19,  1915 


CAPITAL  CONTROL  IN  NEW  YORK  243 

residents  of  a  section  of  the  Borough  of  Queens,  known  as  Douglaston, 
for  the  extension  of  gas  mains  by  the  New  York  and  Queens  Gas  Com- 
pany. This  section  was  aheady  being  furnished  with  electricity,  but 
not  with  gas.  The  company  (now  owned  by  the  ConsoUdated  Gas 
Company)  refused  to  lay  a  main  because  it  claimed  that  the  proposed 
extension  would  not  pay  interest  charges  for  some  time,  and  it  took  the 
position  that  it  ought  to  be  assured  that  it  would  earn  at  least  6  per  cent 
on  the  entire  cost  of  the  extension  before  it  was  required  to  construct  such 
an  extension.  The  Commission  promptly  decided  to  compel  the  com- 
pany to  lay  the  main,  as  required  to  fiu-nish  the  apphcants  with  gas. 
Commissioner  Maltbie,  in  writing  the  majority  opinion  upon  the  case, 
observed  that 

it  is  surprising  that  so  soon  after  the  decision  pennitting  the  Consolidated  Company 
to  acquire  control  of  the  New  York  &  Queens  Gas  Company,  that  company  should 
refuse  to  make  extensions  to  Douglaston  unless  it  is  assisted  financially  by  the  con- 
sumers themselves.'' 

!•  The  comment  of  Commissioner  Wilh'ams,  who  had  supported  the  approval  of 
stock  transfer  when  it  was  up  for  consideration,  is  interesting,  and  is  quoted  herewith: 
"Record  me  in  the  affirmative  for  the  reason  that,  when  the  stock  of  the  company  was 
acquired  by  the  ConsoUdated  Gas  Company  of  New  York,  one  of  the  arguments  used 
on  behalf  of  the  applicant  was  that  just  such  extensions  as  this  could  be  made  if  the 
company  were  controlled  by  the  larger  company,  on  account  of  the  larger  company 
being  better  able  to  finance,  and  that  it  was  also  stated  in  that  hearing  that  many 
mains  would  have  to  be  built  which  would  not  pay  a  return  for  some  time.  This,  I 
believe,  is  one  of  them." 

As  an  instance  of  the  extent  to  which  legal  procedure  may  be  availed  of  hy  a 
corporation  for  purposes  of  delay  the  subsequent  history  of  the  Commission's  Order  in 
this  case  is  of  interest.  The  Company  appealed  from  the  Order  of  the  Commission  to 
the  Appellate  Division  of  the  Supreme  Court,  which  handed  down  an  Order  annulling 
the  determination  of  the  Commission  upon  March  3,  1916.  (171  App.  Div.  580.) 
The  Commission  appealed  to  the  Court  of  Appeals,  which  reversed  the  Order  of  the 
Appellate  Division,  October  3,  1916.  (219  N.  Y.  84.)  A  motion  by  the  Company 
to  the  Court  of  Appeals  for  reargument  was  denied  December  28,  1916.  (219  N.  Y. 
681.)  The  Company  then  appealed,  (under  the  Fourteenth  Amendment)  to  the 
United  States  Supreme  Court,  which  sustained  the  judgment  of  the  Court  of  Appeals, 
December  10,  1917.  (2^5  U.  S.  345.)  The  company  applied  to  the  Commission  for 
rehearing  and  same  was  denied  February  1,  1918.  (9  P.S.C.R.,  1st  Dist.,  N.  Y.,  259.) 
The  Company  then  sued  out  a  writ  of  certiorari  before  the  Appellate  Division  of  the 
Supreme  Court  (N.  Y.)  to  review  the  Commission's  Order  denying  the  application  for 
a  rehearing.    This  writ  was  quashed  April  5,  1918. 

As  a  result  the  Company  is  now  obhged  to  carry  out  the  original  Order  of  the 
Commission  at  a  time  when  prices  and  wages  are  enormously  increased  over  the  scale 
obtaining  when  the  Order  was  originally  issued. 


244  CAPITAL  CONTROL  IN  NEW  YORK 

Stock  Transfers  Based  Upon  General 
Advantage  to  the  Public 

Most  transportation  systems,  whether  railroad  or  street  railroad,  are, 
to  a  greater  or  less  extent,  a  patchwork  of  originally  independent  units, 
built  up  through  purchase  of  stock  control,  or  long-term  leases.  A 
purchase  of  the  remaining  stock,  or,  in  the  case  of  a  leased  property,  of 
all  the  stock,  in  no  way  alters  the  actual  stcUus  quo.  In  these  cases  the 
relations  have  been  fixed  for  so  long  a  time  that  the  subsidiary  corpora- 
tions are  integral  parts  of  the  system  from  an  operating  point  of  view, 
and  it  is  desirable  for  many  reasons  that  they  should  also  become  so 
from  a  financial  viewpoint.  In  thus  broadening  and  stabilizing  the  credit 
of  a  system  and  so  facilitating  the  financing  of  improvements  and  exten- 
sions, stock  transfers  are  of  indirect  public  benefit. 

Such  an  instance  occured  in  connection  with  the  application^^  by  the 
New  York  Central  for  permission  to  purchase  the  entire  capital  stock  of 
the  Spuyten  Duyvil  and  Port  Morris  Railroad.  This  company  owned  a 
line  of  railroad  between  Spuyten  Duyvil,  a  point  upon  the  east  bank  of 
the  Hudson  River  just  north  of  the  most  northern  point  of  the  Island  of 
Manhattan,  and  Mott  Haven  Junction  on  the  East  River,  a  distance  of 
5.31  miles.  The  capital  stock  of  the  railroad  was  $989,000,  par  value, 
and  its  line  was  used  as  a  part  of  the  main  track  of  the  New  York  Central 
and  Hudson  River  Railroad,  aU  through  trains  for  the  north  and  west 
running  over  its  tracks,  as  well  as  all  local  passenger  trains  of  the  Hudson 
River  division.  It  was  thus  a  most  vital  part  of  the  great  New  York 
Central  system,  the  key  of  its  entrance  into  the  city  of  New  York. 

In  1871  a  lease  had  been  made  to  the  New  York  Central  for  99  years 
at  a  rental  of  8  per  cent  on  the  outstanding  capital  stock.  In  view  of 
the  amount  of  money  which  the  New  York  Central  had  hitherto  invested 
upon  this  leased  line  and  was  investing  in  its  passenger  terminals  in  New 
York  City  the  Commission  approved  the  application. 

The  same  general  situation  was  involved  in  the  matter  of  the  applica- 
tion^8  of  the  New  York  Central  for  authorization  to  buy  all  or  any  part 
of  the  capital  stock  of  the  New  York  and  Harlem  Railroad  Company  at 
a  price  not  exceeding  $175  per  share.     The  New  York  and  Harlem  Rail- 

"  Matter  of  Application  of  the  New  York  Central  and  Hudson  River  Railroad 
Company  for  leave  to  purchase  the  stock  of  the  Spuyten  Dujml  and  Port  Morris 
Raiboad  Company,  1  P.S.C.R.,  2nd  Dist.,  N.  Y.  466.    Decided  January  22,  1909. 

**  Matter  of  Application  of  the  New  York  Central  &  Hudson  River  Railroad 
Company  for  authorization  to  buy  the  stock  of  the  New  York  &  Harlem  Railroad 
Company,  3  P.S.C.R.,  2nd  Dist.,  N.  Y.  183.    Decided  December  28,  1911. 


CAPITAL  CONTROL  IN  NEW  YORK  245 

road  Company  owned  a  greater  part  of  the  Grand  Central  Terminal  in 
the  city  of  New  York,  and  a  line  of  railroad  from  that  city  to  Chatham 
with  a  small  branch  extending  to  Port  Morris.  These  properties  had  been 
leased  to  the  applicant  on  the  1st  day  of  April,  1873,  for  a  term  of  401 
years. 

It  appeared  that  the  Central,  if  it  purchased  the  entire  stock  of  the 
Harlem  upon  the  terms  mentioned,  would  increase  its  fixed  charges  to 
the  amount  of  $153,000.  The  Commission  was  convinced  that  the 
advantages  to  be  obtained  were  sufficient  to  over-balance  this  increased 
charge,  and  authorization  to  purchase  the  stock  was  granted.*^ 

Acquisition  of  a  Minority  of  Stock  by  a  Corporation 
Already  in  Control 

In  September,  1912,  application  was  made^"  for  the  authorization  of 
the  purchase  by  the  Third  Avenue  Railway  Company  of  13,560  shares 
of  the  capital  stock  of  the  New  York  City  Interborough  Railway  Com- 
pany in  addition  to  28,650  shares  theretofore  acquired  and  owned  by  the 
Third  Avenue  Railway  Company.  This  would  give  the  appUcant  com- 
pany 42,210  shares  out  of  a  total  of  50,000. 

The  Commission  took  the  position  that  the  general  question  as  to 
whether  the  Third  Avenue  Company  should  be  permitted  to  acquire  any 
stock  of  the  New  York  City  Interborough  Company  had  been  considered 
and  disposed  of  in  the  preceding  case,^^  and  that  the  only  questions  here 
involved  were  those  in  connection  with  an  increase  of  holdings  in  view 
of  the  fact  that  the  Third  Avenue  Company  aheady  owned  and  con- 
trolled a  majority  of  the  stock  of  the  New  York  City  Interborough  Com- 
pany. Authority  to  acquire  and  hold  the  said  13,560  shares  was 
granted.^ 

"  See  also  Matter  of  the  Application  of  the  South  Brooklyn  Railway  Company 
to  purchase  stock  in  the  Prospect  Park  and  South  Brooklyn  Railroad  Company,  and 
in  the  New  York  and  Coney  Island  Railroad  Company,  3  P.S.C.R.,  1st  Dist.,  N.  Y. 
464.    Opionion  adopted  July  2,  1912. 

*"  Matter  of  Application  of  the  Third  Avenue  Railway  Company  to  Purchase, 
Acquire,  Take  and  Hold  Certain  Shares  of  the  Capital  Stock  of  the  New  York  City 
Interborough  Railway  Company,  3  P.S.C.R.,  1st  Dist.,  N.  Y.  447.  Opinion  adopted 
November  8,  1912. 

"3  P.S.C.R.,  1st  Dist.,  N.  Y.  327.  This  case  was  discussed  above  under  the 
heading  "Elimination  of  Competition  not  a  Valid  Reason  for  Consolidation." 

**The  purchasing  corporation  proposed  to  finance  the  purchase  by  the  issue  of 
promissory  notes  payable  not  more  than  one  year  from  date,  for  which  the  authority 
of  the  Commission  was  not  necessary,  and  in  this  coimection  the  opinion  emphasized 


246  CAPITAL  CONTROL  IN  NEW  YORK 

Along  the  same  line  were  two  applications,  one  in  1909,^3  and  the  other 
in  1911,^^  respectively,  concerning  purchases  by  the  Baltimore  &  Ohio 
Railroad  of  relatively  small  amounts  of  Staten  Island  Railway  stock  of 
which  it  already  owned  an  overwhelming  majority.  Since  this  was  the 
case,  the  applications  were  granted,  practically  without  comment,  al- 
though the  Commission  stated  that  if  the  Baltimore  &  Ohio  had  not 
already  had  a  controlling  interest  there  should  have  been  a  thorough 
investigation  as  to  all  the  facts  and  the  probable  effect  of  the  passing  of 
control  of  this  local  corporation  into  the  possession  of  a  foreign  cor- 
poration.^ 

the  fact  that  any  action  taken  upon  the  pending  application  for  purchase  in  no  way 
committed  the  Commission  to  an  approval  of  an  issue  of  securities  in  case  the  company 
at  some  future  time  should  desire  to  pay  off  the  short  term  notes  by  the  issuance  of 
bonds  or  stock. 

**  Matter  of  Application  of  the  Staten  Island  Railway  Company  for  Approval 
of  Transfer  to  the  Baltimore  &  Ohio  Railroad  Company  of  Capital  Stock  of  the  former, 

1  P.S.C.R.,  1st  Dist.,  N.  Y.  788.    Opinion  adopted  August  27,  1909. 

"Matter  of  Petition  of  the  Baltimore  &  Ohio  Railroad  Company  for  Leave  to 
Acquire  Certain  Shares  of  the  Capital  Stock  of  the  Staten  Island  Railway  Company, 

2  P.S.C.R.,  1st  Dist.,  N.  Y.  782.    Opinion  adopted  December  30,  1911, 

^  In  this  connection  see  Matter  of  Application  of  the  New  York  Central  and  the 
Lake  Shore  and  Michigan  Southern  Railroad  for  permission  for  the  former  to  purchase 
capital  stock  of  the  latter,  4  P.S.C.R.,  2nd  Dist.,  N.  Y.  258.  About  95  per  cent  of  the 
outstanding  stock  of  the  Lake  Shore  was  already  owned  by  the  Central.  Permission 
granted.     Decided  December  14,  1914. 

As  an  example  of  the  acquisition  by  a  street  railroad  corporation  of  an  additional 
issue  of  stock  of  a  subsidiary  street  railroad  corporation  of  which  it  already  owned  all 
the  existing  bonds  and  stocks,  we  might  cite  the  application  of  the  Belt  Line  Railway 
Company  to  issue  $269,000  of  capital  stock  to  defray  the  cost  of  acquiring  79  storage- 
battery  cars  for  operation  upon  its  lines,  4  P.S.C.R.,  1st  Dist.,  N.  Y.  411.  The  Third 
Avenue  Company,  which  owned  all  of  the  bonds  and  capital  stock  of  the  Belt  Line  Cor- 
poration, asked  for  authority  to  acquire,  take  and  hold  all  of  the  new  capital  stock. 
Permission  granted.     Opinion  adopted  November  7,  1913. 

In  the  case  of  subsidiary  corporations  organized  for  feeder  purposes,  or  where 
small  and  struggling  corporations  have  been  bought  up  and  heavily  financed  by  the 
controlling  corporation,  the  Commissions  have  made  little  objection  to  the  acquisition 
of  further  issues  of  the  subsidiaries  by  the  larger  corporations.  The  preceding  case 
is  a  typical  instance.  We  might  cite  also  the  application,  6  P.S.C.R.  (1st  Dist.,  N.  Y.) 
189,  of  the  Third  Avenue  Railway  Company  to  purchase  the  entire  capital  stock  of  the 
Third  Avenue  Bridge  Company.     Opinion  filed  March  23,  1915. 

See  also,  the  Matter  of  the  Application  of  the  Pelham  Park  and  City  Island 
Railway  Company,  Inc. ,  for  permission  to  issue  capital  stock,  together  with  a  request 
for  permission  to  transfer  to  the  Interborough  Rapid  Transit  Company,  which  already 
owned  all  the  outstanding  stock  of  the  applicant  corporation.  Permission  granted. 
See  4  P.S.C.R.,  1st  Dist.,  N.  Y.  314.     Opinion  adopted  May  27,  1913. 


CAPITAL  CONTROL  IN  NEW  YORK  247 

See,  in  addition,  Matter  of  the  Application  of  the  Third  Avenue  Railway  Com- 
pany for  Consent  to  Purchase  Capital  Stock  and  Bonds  to  be  Issued  by  the  Mid- 
Crosstown  Railway  Company,  Inc.,  5  P.S.C.R.,  1st  Dist.,  N.  Y.  22.    Opinion  adopted 

(January  23,  1914. 
Matter  of  Application  of  the  Astoria  Light,  Heat  &  Power  Company,  for  Authori- 
zation of  the  Issuance  of  Bonds  and  Stock,  5  P.S.C.R.,  1st  Dist.,  N.  Y.  225.    Decision 
rendered  May  4,  1914. 

Matter  of  Application  of  the  New  York  Edison  Company  for  an  Order  Authorizing 
r  the  Issuance  of  $15,800,000  Additional  Capital  Stock,  5  P.S.C.R.,  1st  Dist.,  N.  Y 

f;  230.    Decision  rendered  May  4,  1914. 

Two  other  cases  iavolve  the  transfer  and  re-transfer  of  stock  to  facilitate  re- 
organization proceedings.  They  are,  first,  the  Matter  of  the  Application  of  the 
Receivers  of  the  Metropolitan  Street  Railway  Company  (1909)  to  Purchase  from  the 
Receiver  of  the  New  York  City  Railway  Company  the  Stock  of  the  Bridge  Operating 
Company  owned  by  the  latter,  1  P.S.C.R.,  1st  Dist.,  N  Y.  741.  Opinion  adopted 
August  20,  1909;  secondly,  the  Matter  of  the  Application  of  the  New  York  City  Rail- 
way Company,  in  1914,  to  re-purchase  the  same  from  the  Metropolitan  Company, 
5  P.S.C.R,  1st  Dist.,  N.  Y.,  251.    Opinion  adopted  June  2,  1914. 


INDEX 


For  references  to  laws,  court  decisions  and  opinions  of  the  Commissions  see  front 
of  book. 


Actual  cost — recognized  as  proper  basis 

for  capitalization,  19,  30,  31. 
Addition  of  new  to  old  securities,  59-60. 
Additional    capitalization    for    existing 
companies,  76;  considerations  in  grant- 
ing applications  for  same  set  down  by 
Second    District    Commission,    76-7; 
definiteness  in   application   for   same 
necessary,  76;  factors  upon  which  an 
application  for  approval  of  same  was 
based,  78. 
Adequate  facilities — furnishing  of  same 
by  a  public  utility  dependent  upon 
proper  capitalization,  186. 
American    and    British    Manufacturing 

Company,  29. 
Amortization — of  bond  discount,  21,  39, 
41,  42,  191. 
of    excess    capitalization, 

98. 
of    expenses    relating    to 

franchises,  97,  99. 
of  intangibles,  42,  96. 
of  profit  and  loss,  43. 
of    property    subject    to 
reversion,  95. 
in  general,  92. 
Ample  time  necessary  for  investigation  of 

proposed  issues,  77. 
Applications  for  securities — need  not  be 
considered  as  a  whole  by  New  York 
State  Commissions,  31-2,  34. 
Application  of  proceeds  of  securities,  42- 
3-4,  52. 


Benefit  fund  for  employees,  issue  of 
securities  for  such  purpose  not  legal, 
144. 

Board  of  Railroad  Commissioners  crea- 
tion of  (1882),  4;  abolition  of  (1907), 
11;  see  footnote*  19. 

Bonds,  power  to  borrow  money  granted 
by  Act  of  1850,7;  same  omitted,  Act 
of  1890-7;  same  restored.  Act  of  1892-7; 
same,  amended.  Act  of  1899-7;  regula- 
tion of  issue  of,  by  Commission  of  Gas 
&  Electricity,  7;  proportion  of,  to 
stock  under  the  Public  Service  Com- 
missions, 19;  amount  of  bonds  per- 
missible, 37-8,  40;  approval  by  Com- 
mission does  not  guarantee  bonds,  40; 
authorization  of  a  proposed  issue  of 
bonds  carries  no  implication  as  to 
remaining  bonds  which  may  be  author- 
ized subsequently  under  the  same  mort- 
gage, 78;  bond-interest  during  con- 
struction, 36;  bond  premium  unamor- 
tized disapproved  in  refunding  issue, 
164;  bond  premium  charged  to  capital, 
168;  factors  involved  in  considering 
authorization  of  a  proposed  bond  issue, 
76-7-8;  162;  fundamental  requisites  for 
soundness  of  same,  35;  car-trust  bonds 
used  in  case  of  weakened  credit,  86; 
public  subscription  to  bonds,  79;  possi- 
bility of  bonds  being  worth  over  par, 
81,  83;  bonds  used  as  a  basis  for  short- 
term  notes,  86;  issue  of  bonds  for 
operating  expenses  proper  if  subject  to 
rapid    amortization,    226;    results    of 


249 


250 


CAPITAL  CONTROL  IN  NEW  YORK 


over-issues  of  bonds,  38;  restrictions 
imposed  upon  issues  of  bonds,  43. 

Bond  Discount,  amortization  of,  39,  41, 
86,  92;  bond  issue  to  meet  same  in 
refunding  issue,  169;  attempt  to  cir- 
cumvent amortization  of,  93,  191; 
failure  to  amortize  same  causes  capital 
inflation,  42;  bond  discount  should  be 
as  small  as  possible,  79;  unamortized 
bond  discounts  in  refunding  issues  dis- 
approved, 164;  high  redemption  pre- 
mium allowed,  168;  bonds  allowed  to 
meet  bond  discount  on  a  refunding 
issue,  169. 

Bond  Interest,  proposed  funding  of,  88; 
interest  upon  same  not  a  legal  obliga- 
tion, 167;  payment  of  interest  coupons 
does  not  constitute  "acquisition  of 
property"  under  the  Public  Service 
Commissions  Law,  227. 

Capital  stock — reduction  of,  under  Act 
of    1878,   3;   with   ap- 
proval of  State  Comp- 
troller, Act  of  1878,  3; 
under  Act  of  1890,  6; 
increase  of,  with  written 
approval  of  State  En- 
gineer   and    Surveyor, 
Act  of  1880,  4;  under 
Act  of  1890,  6; 
regulation  of,   by   Com- 
mission   of    Gas    and 
Electricity,  7; 
proportion  of,  to  bonds, 
18. 
Capitalization,  excess  of,  amortization  of 

same,  98. 
Capitalization,    inflation    of,    104,    118; 
elimination  of,  in  Port  Jervis  case,  178. 
Capitalization  of  replacements,  70,  105, 
121;  prevention  of  same,  108,  110-111; 
attitude  of  Commissions  toward,  122; 
attitude  of  courts  toward,  124. 
Car  trust  bonds,  used  in  case  of  weakened 
credit,  86. 


Certificate  to  begin  construction,  in  re 
Longacre  Light  &  Power  Company,  38. 

Cleveland  Construction  Company,  24. 

Commision  of  Gas  and  Electricity,  crea- 
tion of  (1905),  7;  abolition  of  (1907), 
11;  footnote,  page  21. 

Consuming  public's  interest  in  commis- 
sion control  of  securities,  54,  58,  59-60. 

Commissions  and  the  investor,  50. 

Commissions  and  the  courts,  62. 

Consolidation,  regulation  of  by  the  Com- 
mission of  Gas  and  Electricity,  7; 
amount  of  capital  stock  permissible  in 
such  cases  limited  by  Act  of  1907,  9; 
consolidation  under  the  General  Rail- 
road Law  of  1910,  15,  55;  power  of  the 
Commissions  in  such  cases  to  protect 
investors,  56;  permission  of  commission 
necessary  for  consolidation,  212;  a 
commission  has  no  power  to  compel 
the  effecting  of  a  proposed  merger  or 
consolidation,  212;  securities  involved 
in  a  case  of  consolidation  need  not  be 
based  upon  the  value  of  the  property, 
189;  value  of  the  property  in  consolida- 
tion cases  discussed,  222. 

Construction  companies,  attitude  of  the 
Commissions  toward,  18,  24,  26-7-8. 

Control,  general,  by  Board  of  Railroad 
Commissioners,  law  of  1882,  5;  under 
law  of  1875,  applying  to  horse  and 
steam-dummy  railroads,  6;  under 
General  Railroad  Law  of  1890,  6; 
under  amendatory  act  of  1892,  6;  a 
public  service  corporation  may  not  sell 
or  lease  its  franchise,  works  or  system 
without  consent  of  commission,  212. 

Control  of  security  issues,  not  given  to 
Board  of  Railroad  Commissioners,  5; 
administrative  control  of  same  did  not 
exist  prior  to  1905,  7;  control  of  same 
by  Commission  of  Gas  and  Electricity, 
9;  by  Public  Service  Commissions 
under  law  of  1907,  11;  control  of  same 
as  amended  in  1910,  11;  investigation 
of  proposed  issues,  13;  notes  or  other 
evidences  of  indebtedness  issuable  for 


INDEX 


251 


twelve  months  or  less  under  Public 
Service  Commissions  Law  without 
consent  of  commission,  13;  exchange 
or  guarantee  of  securities  of  one  rail- 
road by  another  under  law  of  1910,  16; 
control  of  issue  of  securities  under  the 
"reorganization  amendment"  to  the 
Public  Service  Commissions  Law  in 
1912,  16;  fundamental  requisite  for 
the  security  of  bonds,  35;  issue  of 
securities  restricted  to  the  needs  of 
the  initial  plant,  40;  Orders  of  the 
Commissions  generally  stipulate  the 
ratio  of  stock  to  bonds,  40;  same  are 
based  upon  proper  provisions  for 
amortization  and  depreciation,  42; 
general  restrictions  imposed  upon 
issue  of  securities  in  Rochester  Coming 
case,  43;  the  instrument  of  authoriza- 
tion of  the  commission  must  state  that 
"in  the  opinion  of  the  commission" 
the  amount  of  securities  approved  of 
"is  reasonably  required"  for  the  pur- 
poses enumerated,  50;  written  approval 
of  the  proper  commission  necessary,  50. 
Cost  of  reproduction  new,  19,  30, 
Cost  records,  importance  of,  in  the  regu- 
lation of  capitalization,  100. 
Courts  and  the  commissions,  62;  attitude 
of  the  courts  toward  the  commissions, 
69:  "strict  construction"  attitude  of 
the  courts,  69;  "implied  powers"  atti- 
tude of  the  courts,  70. 

Deficit,  application  for  issue  of  bonds  to 
meet  same  denied,  65. 

Definiteness  necessary  in  applications  for 
permission  to  issue  securities,  76. 

Depreciation,  104,  105;  results  of  paying 
bond  interest  at  sacrifice  of  deprecia- 
tion fund,  38,  67;  results  of  neglect  of 
same,  108;  neglect  of,  causes  inflation 
of  capitalization,  42;  powers  of  a  com- 
mission to  compel  the  setting  aside  of 
adequate  depreciation  funds,  discussion 
of  same,  55,  125,  129,  133-4,  192-3. 
depreciation   reserves   are   "operating 


expenses,"  194;  depreciation  fund  dis- 
tributed to  stockholders  by  Dry  Dock 
Company,  204;  setting  aside  of  a  de- 
preciation fund  ordered  by  First 
District  Commission,  73;  denial  by 
the  courts  of  the  powers  of  the  com- 
missions in  such  cases,  56. 

Dividends,  replacements  must  be  paid 
out  of  earnings  before  declaration  of 
same,  108;  issue  of  stock  for  purposes 
of  a  stock  dividend  not  legal,  135; 
scrip  dividends  not  legal,  137;  relation 
of  the  1910  amendment  to  the  Public 
Service  Commissions  Law  to  the 
declaration  of  dividends,  145. 

Discrimination  in  rates,  powers  to  pre- 
vent same  given  to  the  Board  of  Rail- 
road Commissioners,  5. 

Duty  of  commissions  to  protect  investors, 
56-9,  64;  same  with  regard  to  possible 
reversal  of  their  decisions  by  the  courts, 
63,  208. 

Earning  power  as  a  basis  for  the  issuance 
of  securities,  184,  197-8,  200. 

Elasticity  in  the  expenditure  of  the 
proceeds  of  securities,  19,  45-6,  49. 

Empire  City  Subway  Company,  Ltd.,  28. 

Equipment  trust  certificates,  108. 

Excess  capitalization,  amortization  of,  98. 

Experimental  stage  in  utility  property, 
22-3. 

Fiscal  year,  as  stipulated  under  Act  of 
1850,  2;  under  Act  of  1880,  4. 

Fixed  capital  account,  as  set  up  by  the 
Public  Service  Commissions,  126. 

Franchises,  as  treated  under  the  Act  of 
1905,  5;  capitalization  of  same  for- 
bidden by  the  Act  of  1907,  13;  same 
in  connection  with  the  Longacre  case, 
33 ;  amortization  of  expenses  connected 
with  acquisition  of  same  provided  for, 
97-9. 

Funding  of  bond  interest,  88. 

General  Railroad  Law  of  1910,  15. 


252 


CAPITAL  CONTROL  IN  NEW  YORK 


Hudson  Coal  Company,  154. 

Implied  powers  of  the  Commission,  131- 
134. 

Inflation  of  capitalization,  104,  118;  plan 
suggested  to  remedy  same  in  Niagara 
case,  121. 

Intangibles,  duplication  of,  42;  amortiza- 
tion of,  96. 

Intangible  elements  of  cost,  22. 

Interest  during  construction  period,  22, 
25. 

Interest  of  the  public  in  commission 
control  of  securities,  the  commissions 
and  the  investor,  50;  power  of  the  com- 
missions to  protect  the  investor,  50; 
duty  of  the  commissions  to  protect  the 
investor,  56,  64;  responsibility  of  the 
commissions  to  investors,  57,  58,  61; 
lack  of  power  of  the  commissions  to 
protect  the  investor  in  the  light  of  the 
decision  of  the  New  York  Court  of 
Appeals,  56;  interest  of  the  public  in 
the  amount  of  securities  which  may  be 
issued  by  a  reorganized  company,  185. 

Laboratory  methods  used  for  the  investi- 
gation of  proposed  security  issues,  36. 

Losses  during  experimental  stage,  solu- 
tion suggested,  23. 

Maltbie,  Milo  R.,  Commissioner,  First 
District,  82-3. 

Maintenance,  necessary  requirements  for, 
104;  fund  for  same  required  to  be  set 
aside  by  New  York  Railways  Com- 
pany, 73,  129;  maintenance  and 
renewals,  192. 

Manhattan  Transit  Company,  33. 

Merger,  of  parallel  lines  prohibited,  act 
of  1890,  6;  power  to  regulate  same 
given  to  Board  of  Railroad  Commis- 
sioners, act  of  1892,  7;  regulation  of 
mergers  by  Commission  of  Gas  and 
Electricity,  7;  regulation  of  same  under 
General  Railroad  Law  of  1910,  16;  55, 
power  of  commissions  to  protect  in- 


vestor in  cases  of  merger,  56;  value  of 
property  not  basis  of  issue  of  securities 
for  purpose  of  merger,  189. 
Miscellaneous  considerations,  135. 

New    York    and    Nassau    Construction 

Company,  24. 
New  York  and  Nassau  Railway  S5mdi- 

cate,  24. 
Notes  of  indebtedness  for  twelve  months 

or  less,  privilege  of  issuing  same  not  to 

be  used  for  a  subterfuge,  145,  161. 

Obligations  issued  prior  to  July  1,  1907, 
attitude  of  Commission  toward,  152. 

Operating  expenses,  may  be  refunded 
temporarily  at  discretion  of  the  Com- 
missions, 12,  48-49. 

Original  companies,  amount  of  capitaliza- 
tion permissible,  18;  powers  of  com- 
missions to  protect  investors,  56. 

Powers  of  Commissions  to  compel  the 
setting  aside  of  depreciation  funds, 
125;  powers  of  same  to  protect  in- 
vestors, 50,  56,  167. 

Promoter's  fees,  23-4. 

Premiums,  unamortized  bond  premiums 
in  refunding  issue  disapproved,gl64; 
premium  charged  to  capital,  168;  high 
redemption  premium  allowed,  168. 

Property  costs,  complete  record  of,  100. 

Property,  are  railroad  securities  "proper- 
ty"? 149;  purchase  of  coal  lands  by 
the  Delaware  &  Hudson,  154;  property 
not  directly  used  in  the  public  service, 
issue  of  securities  for  the  purchase  of, 
157. 

Public  offering  of  bonds,  79-80. 

Public  Service  Commissions,  legal^status 
of,  62 ;  purpose  of  creation  of,  as  defined 
by  the  New  York  Court  of  Appeals, 
71-2;  change  in  attitude  of  courts 
toward,  70;  proper  attitude  of  same 
toward  the  courts,  63;  exercise  by 
same  of  discretionary  powers  over  the 
acts  of  a  corporation,  66. 


INDEX 


253 


Public  Service  Commissions  Law,  8;  in 
effect,  July  1,  1907,  11;  jurisdiction 
over  telegraphs  and  telephones  added 
in  1910,  11;  jurisdiction  over  steam 
corporations  added  in  1913,  11;  section 
of  same  dealing  with  control  of  securi- 
ties amended  1910,  11;  purpose  of  the 
law,  54;  grant  of  powers  imder  the  law 
as  defined  by  the  New  York  Supreme 
Court,.  73;  powers  as  interpreted  by 
the  New  York  Supreme  Court,  131-2; 
interpretation  of  Section  52  of  same 
by  New  York  Court  of  Appeals,  133; 
the  two  main  fimctions  of  a  public 
service  commission  may  conflict,  119; 
gradual  reform  of  the  financial  methods 
of  public  utilities  under  its  jiudsdiction 
favored  by  the  Second  District  Com- 
mission, 121;  legislative  intent  in  the 
enactment  of  the  law,  156. 

Purchase  money  mortgages,  could  be 
issued  without  the  consent  of  the 
Board  of  Railroad  Commissioners 
imder  the  Act  of  1899,  7;  same  made 
subject  to  the  Public  Service  Commis- 
sion, 16. 

Purposes  for  which  securities  can  be 
issued,  under  the  Act  of  1907,  11; 
under  the  Act  as  amended  in  1910,  11, 
138. 

Railroad  Securities  Commission,  refer- 
ence to  report  of,  92. 

Rates  of  public  utilities  and  their  rela- 
tion to  securities,  61. 

Rate  of  return  upon  securities,  79;  high 
rate  of  return  necessitated  by  tem- 
porary conditions,  84;  high  rate  of  re- 
turn upon  refunding  issues  disapproved, 
165. 

Ration  between  stock  and  bonds,  18,  20, 
21;  in  re  Longacre  case,  33-40,  65-66. 

"Reimbursement  of  treasury,"  11-13,  45, 
139;  same  permitted  imder  the  1910 
amendment  to  the  Public  Service 
Commissions  Law,  143-145. 


"Reasonably  necessary,"  acquisition  of 
feeder  lines  for  a  railroad  held  to  be 
so,  149;  acquisition  of  a  disconnected 
property  held  not  to  be  so,  150. 

Refimding  of  note  issues,  general  tests, 
150. 

Regulation,  prior  to  July  1,  1907,  1. 

Renewals,  see  Replacements,  distinction 
between  renewals  and  maintenance 
discussed,  192. 

Reorganization,  160,  173,  190;  act  to 
facilitate  reorganization  of  railroads 
(1874),  2;  history  of  reorganization, 
since  1850,  173;  philosophy  of  old 
reorganization  law,  174;  amendatory 
reorganization  act  of  1876,  provision 
for  additional  certificate  to  be  filed 
with  the  Secretary  of  State  (1880),  4; 
"reorganization  amendment"  to  the 
Public  Service  Cormnissions  Law  in 
1912,  16,  64,  177,  197;  reorganization 
under  the  New  York  State  Commiss- 
sions,  52;  power  of  the  Commissions  to 
protect  investors  in  cases  of  same,  56; 
Metropolitan  reorganization,  112-113; 
replacements  in  Kansas  City  Southern 
case,  114;  "twilight  zone"  period  in 
reorganization  cases  in  New  York 
State,  115,  117,  129;  restriction  of  the 
powers  of  the  New  York  State  Com- 
missions in  such  cases  by  the  court 
decision  in  the  Third  Avenue  case,  190; 
only  sound  basis  for  reorganization, 
175. 

Replacements,  104;  capitalization  of,  105, 
110,  111,  118,  121;  tendency  to  finance 
with  new  capitalization,  42;  attitude 
of  courts  toward  capitalization  of 
same,  70;  commissions  have  no  powers 
to  permit  the  issuance  of  securities  for 
same,  73;  replacements  must  be  paid 
for  out  of  earnings  before  any  di\'idends 
are  declared,  108;  proper  ratio  between 
replacements  and  capital  charges  dis- 
cussed, 108;  three  standards  used  by 
First  District  Commission  in  deter- 
mining this  ratio,  113;  attitude  of  the 


254 


CAPITAL  CONTROL  IN  NEW  YORK 


Commissions  and  of  the  courts  toward 
capitalization  of  replacemente,  122-24; 
replacements  charged  to  fixed  capital, 
224;  replacements  may  be  capitalized 
only  under  provisions  for  rapid  amor- 
tization, 227. 

Refunding  securities,  52,  160,  172;  requi- 
site evidence  upon  which  to  base  same 
as  outlined  by  court,  207;  same  must 
represent  original  investments  for 
capital  account,  53;  tests  set  down  by 
Commission  for  a  refunding  issue,  53; 
test  of  basis  of  a  refunding  issue  before 
the  New  York  State  Court  of  Appeals 
prevented  by  a  legal  technicality,  53; 
powers  of  the  Commissions  to  protect 
investors  in  refunding  cases,  56; 
legality  of  a  proposed  refunding  issue 
not  a  sufficient  basis,  161;  significance 
of  estimates  of  earnings  in  connection 
with  same,  162,  issue  of  refunding 
bonds  to  meet  bond  discount,  169, 
status  of  refunding  issues  assumed 
prior  to  the  creation  of  the  Public 
Service  Conmaissions  in  1907,  170; 
permission  granted  to  release  property 
pledged  under  the  original  mortgage, 
171. 

Reports,  to  State  Engineer  and  Sur- 
veyor, 1,  4;  same  under  Board  of  Rail- 
road Commissioners,  1,  4;  same  under 
law  of  1848,  1;  under  law  of  1850,  1; 
of  leased  and  lessor  companies  under 
Act  of  1869,  2;  under  amendatory  act 
of  1867,  2;  under  act  of  1880,  4;  under 
Board  of  Railroad  Commissioners,  5; 
under  law  of  1892,  6;  reports  to  Public 
Service  Commissions,  14;  report  of 
bonds  sold,  22;  of  expenditure  of  bond 
proceeds,  22. 

Reproduction,  new,  110. 

Reserve  funds,  see  Surplus. 

Responsibility  of  Commissions  to  in- 
vestors, 57,  58. 

Retirements,  104;  same  not  properly 
credited  to  capital  account,  224. 

Retirement   values,    importance    of,    in 


regulation  of  capitalization,  100;  dif- 
ficulty of  fixing  same  without  cost 
records,  101,  110-111. 

Sales  of  stock,  21. 

Securities  issued  prior  to  the  regime  of 
the  Public  Service  Commissions,  69, 
163;  issue  of  for  purpose  of  stock 
dividends  not  legal,  135;  issue  of,  for 
scrip  dividends  illegal,  137;  issue  of, 
for  "reimbursement  of  treasur>'"  illegal 
under  original  act,  139;  issue  of  same, 
for  purchase  of  property  not  directly 
used  in  the  public  service,  157. 

Scrip  dividends,  illegal  under  Public 
Service  Commissions  Law,  137. 

Selling  prices  of  securities,  79. 

Short  term  notes,  bonds  used  as  a  basis 
for,  86 

Stevens,  F.  W.,  chairman  Second  Dis- 
trict Commission,  quotation  from,  64. 

Stock  dividends,  issue  of  securities  for 
purpose  of  same  not  legal,  135;  same 
under  1910  amendment,  145. 

Stock,  proportion  stipulated  in  Com- 
mission's order  to  be  fully  paid  in 
before  the  issue  of  bonds,  41. 

Stockholders,  protection  of  under  public 
utility  regulation,  35;  minimum  re- 
quirements to  attract  stockholders,  36. 

Stock  transfers,  regulation  of  by  Com- 
mission of  Gas  and  Electricity,  7,  9; 
restriction  of,  14. 

Surplus,  securities  cannot  be  issued  to 
create  same,  135. 

Tangible  elements  of  cost,  19. 

Test  of  proposed  securities  by  commis- 
sions, 51-57;  securities  must  represent 
actual  capital  invested  and  ofiFer 
reasonable  prospects  of  a  fair  return, 
58;  tests  for  refunding  issues  suggested 
by  New  York  State  Court  of  Appeals, 
124. 

Transportation  Companies  Act,  7. 

Twenty-third  Street  Railway  Company, 
93. 


INDEX 


255 


Uniform  System  of  Accounts,  21,  125- 
127,  224;  such  a  system  can  permit  of 
no  exceptions,  115-6,  interpretation  of 
Section  52,  relating  to  uniform  system 
of  accounts,  by  New  York  Court  of 
Appeals,  133. 

Value  of  power  contract  based  by  Com- 
mission upon  reasonable  profits  upon 
capital  invested,  181. 

Value  of  property  underlying  proposed 
issues  of  securities,  51,  52,  182,  189; 


in  the  case  of  refunding  securities,  52, 
205;  Commissioner  Hayward's  state- 
ment (footnote),  54;  in  cases  of  con- 
solidation, 55;  in  case  of  Metropolitan 
Street  Railway,  112,  115,  117,  193;  in 
reorganization  cases,  175-76,  190-91, 
196-97,  199;  Port  Jervis  case  based  on 
value  of  property,  178;  value  of 
property  in  consolidation  versus  re- 
organization cases,  222. 

Working  capital,  23. 


THIS  BOOK  IS  DUE  ON  THE  LAST  DATE 
STAMPED  BELOW 

AN  INITIAL  FINE  OF  25  CENTS 

WILL   BE   ASSESSED    FOR   FAILURE  TO   RETURN            | 
THIS    BOOK   ON    THE   DATE   DUE.    THE   PENALTY            ' 
WILL  INCREASE  TO  SO  CENTS  ON  THE  FOURTH 
DAY    AND    TO     $1.00    ON    THE!    SEVENTH     DAY 
OVERDUE. 

^^f^    J9     tA 

■^"3   1937 

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LD  21-100m-8,'34 

YD  22052 


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UNIVERSITY  OF  CALIFORNIA  LIBRARY 


